Today’s update from United Utilities (LSE: UU) is in line with expectations and shows that the water services provider continues to offer excellent long-term potential. Encouragingly, United Utilities expects revenue and operating profit to be slightly higher in the current year than last year, with it tightly managing its cost base despite the expected increase in depreciation and other cost pressures. And, although net debt is set to rise next year, overall gearing is due to remain well within the company’s target range of 55% to 65% net debt to regulatory capital value.
Looking Ahead
Despite the current year being generally upbeat for United Utilities, the next couple of years are set to be tougher. As well as the potential for an interest rate rise causing debt servicing costs to move higher, United Utilities is forecast to see net profit fall by 8% next year, followed by flat performance in 2017. Although this is disappointing, the company’s dividend is still set to remain relatively well covered at 1.2 times which, given the company’s high degree of earnings visibility and relative stability, appears to be very adequate. As such, United Utilities looks set to continue to appeal as a strong and stable defensive play.
Sector Peers
Undoubtedly, there are better value stocks than United Utilities in the utility sector. One prime example is Centrica (LSE: CNA), which trades on a price to earnings (P/E) ratio of just 14. While this is lower than the FTSE 100‘s P/E ratio of 16, it is even more attractive when compared to United Utilities’ P/E ratio of 22. As such, it could be argued that Centrica has more appeal than United Utilities in terms of the potential for share price gains moving forward.
However, the major difference between the two companies is that Centrica faces significant political pressure at the present time and, realistically, could see its share price fall in the short run depending on the outcome of the General Election. For this reason, as well as the fact that it has an exploration arm that is hurting from lower energy prices, Centrica deserves to trade at a discount to United Utilities and, as such, it may not be as appealing relative to its peer as its current P/E ratio suggests. Furthermore, while Centrica yields 5% versus United Utilities’ 4%, the latter’s dividends are much more stable and, unlike Centrica’s, are unlikely to be volatile moving forward.
Of course, Severn Trent (LSE: SVT) also offers the stability and robust performance of United Utilities. However, it trades at a significant premium to its water services peer, with it having a P/E ratio of 26.5 versus United Utilities’ rating of 22. And, with Severn Trent currently yielding 3.8% versus United Utilities’ 4%, its income potential also appears to be less enticing.
Looking Ahead
So, while it is more expensive than Centrica, United Utilities offers greater stability and a more certain future for its investors. As such, it appears to be a more appealing income and defensive play than Centrica, with its higher yield and lower rating making it more attractive than Severn Trent, too.
