Share watch: Do you really need to be brave to invest in water?
Published 11/07/2016 | 02:30
The English Romantic poet John Keats is buried in Rome and the epitaph on his gravestone reads: 'Here lies one whose name is writ in water.' Off-hand, I can think of a good number of political gravestones in Ireland which in the past year or so will be able to carry the same epitaph.
Irish Water has been such a confused mess and it is still too early to count all the casualties. But investment is about taking chances and assessing opportunities and water is a commodity that attracts serious investors, especially those interested in defensive stocks.
So in this slightly apologetic way, I chose to point my microscope today at the English water company, Pennon plc, sometimes affectionately known as the 'West Country water boys'.
Pennon has its origins in Mrs Thatcher's privatisation of the UK water industry and is currently valued at £3.5bn.
It operates and invests primary in the areas of water, sewage services and waste management. Its subsidiary South West Water (SWW) holds the water and sewage licence for the south west of England with a population of 1.7 million. Another part of Pennon is its waste management arm, Viridor.
Considering that the water industry encourages its customers to use less of its product, it is a pretty decent earner. Pennon has also been acquisitive. It bought Bournemouth Water with its half million population last year. As a result, it anticipates savings, particularly from shared services, helping it achieve its cost savings target of £11m per annum.
While Pennon is out-performing its regulatory contract with OFWAT (the water regulator) in financial terms, it also continues to improve its water operations. SWW drinking water quality remains high, with 99.7pc compliance, Bournemouth had 100pc.
Viridor, Pennon's waste management arm, is involved in waste landfill and with new technology converting rubbish into recyclable products or energy. It serves more than 150 councils and major corporations.
In the UK, over half of recycling and waste collection is currently privatised but is fragmented. As a result, Viridor has been mopping up waste management companies like Blue Circle and Thames. Currently, Viridor is experiencing a period of upheaval as it moves away from traditional waste disposal to recycling and burning waste to generate electricity.
Pennon reports on both water and waste management separately and while water revenues are only 70pc of waste management, its profits are over 50pc higher. Group revenue last year was £1.35bn with the water business contributing £547m and profits of £160m helped by its Bournemouth acquisition.
The company's waste management arm saw revenue decrease 3.6pc in a year to £806m. This is only 6pc ahead of its revenue five years ago.
Investors piled into Pennon shares early this year, pushing them to a 10-year high. The current price is around 900p - almost treble what it was 10 years ago.
That may have had something to do with its generous dividend policy.
Concerns about falling landfill volumes and pressures on recycling margins eased as the company secured long-term contracts for its energy from waste facilities. While Pennon is not showbiz and its returns are modest, given the regulated nature of its business, it could be still attractive to large investors.
In addition, its waste management arm could be sold or floated, as has happened elsewhere in the water and waste management sector in the UK. The West Country water boys are clearly no slouches and the share is a classic defensive stock, not a bad idea in today's turbulent times.
It would be interesting to speculate about whether Pennon could provide a template for Irish Water?
I think it is unlikely unless the paralysis by analysis phase currently afflicting Irish Water quickly becomes a thing of the past.
Nothing in this section should be taken as a recommendation, either explicit or implicit, to buy any of the shares mentioned