As shares soar 20%, will today’s deal finally help Drax Group plc return to growth?

Shares in Drax Group plc (LON: DRX) are heading higher today but should investors buy into the growth story?

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 Shares in Drax (LSE: DRX) are up by as much as a fifth today after the floundering energy company announced a game-changing acquisition to boost its growth. 

Drax has long been looking for potential acquisitions in the clean energy sector to drive revenue and profit growth as income from its legacy power generation business stagnates.

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And today’s announced acquisition of Opus Energy appears to meet all of the group’s stated acquisition objectives. Opus is the UK’s sixth biggest business energy supplier, supplying electricity and gas to over 260,000 UK locations, helping Drax diversify from the power production market into the power supply market. What’s more, alongside the deal Drax is acquiring four Open Cycle Gas Turbine (OCGT) development projects with a total capacity of 1,200MW for an initial purchase price of £18.5m. In total, these two acquisitions will cost Drax a total of £368.5m upfront with further payments expected for the gas turbine projects following capacity market auctions.

Despite the high cost, these deals do look to be astute purchases by Drax’s management and should help re-ignite group growth. 

Attractive acquisitions 

Drax has been struggling with growth for some time and has warned on profits several times in the past few years. The company’s biggest problem is that it’s essentially just one power station, which means earnings are highly susceptible to any one-off issues. 

The Drax Power Station is located near Selby, North Yorkshire and is run on wood pellets that are produced around the world. In addition to the power station, Drax also owns Drax Biomass Inc (a wood pellet producer), Haven Power (an electricity supplier) and Billington Bioenergy (a UK wood pellet supplier). Haven Power was Drax’s first venture into the power supply market but compared to Opus the business is struggling. 

Last year, Haven reported a gross profit of £19m on revenue of £1.3bn. Meanwhile, Opus reported gross profits of £107m on revenue of £573m.  

Profit boost 

Looking at the figures, it’s evident how transformational this deal will be for the group. Drax posted a 42% decline in year-on-year in earnings before interest tax depreciation and amortisation for the first half of 2016. Analysts expect EBITDA to be 20% lower than the £169m reported for 2015, that was itself down from £229.4m for 2014. So excluding any cost synergies from the acquisition of Opus, next year Drax could be set to report a massive uplift in post-tax profits as income from the purchase blends with revenue from the rest of the group. 

Analysts have pencilled-in a pre-tax profit of £24m for Drax for full-year 2016. Add in an estimated contribution from Opus of £107m for the following year, and it’s clear why the shares have rallied by nearly a fifth in early trading today. The current valuation of 52.8 times forward earnings doesn’t seem so daunting when you consider this projected growth. 

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Rupert Hargreaves has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

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