Right now I’m analysing some of the most popular companies in the FTSE 100 to establish if they are attractive long-term buy and forget investments.
Today I’m looking at Severn Trent (LSE: SVT).
What is the sustainable competitive advantage?
Severn Trent’s main competitive advantage is its virtual monopoly over the provision of water and related services to around eight million people, 13% of the UK population in the Midlands.
However, despite the company’s near monopoly over the Midlands water market, Severn Trent cannot set its own prices. Indeed, the prices that the company is allowed to charge customers are strictly regulated by the water regulator, Ofwat.
What’s more, Ofwat only reviews the company’s pricing structure every five years, removing the company’s ability to increase prices if costs suddenly expand.
That said, the company does provide water related services internationally and these operations are not regulated by any organisation, which gives the company some flexibility to achieve higher levels of profit.
Still, Severn Trent’s profit margins are smaller than those of its closest peers. In particular, during its last reported financial year, Severn Trent had an operating profit margin of 27% while peers United Utilities and National Grid had operating profit margins of 38% and 28% respectively.
Company’s long-term outlook?
As one of the premier utility companies for the Midlands, Severn Trent is unlikely to be displaced from its position in the industry any time soon.
Indeed, the company already has 137,000 kilometres of water and sewage pipes in place along with 1,160 water treatment stations, infrastructure that would be hard to recreate for any competitor.
Furthermore, according to information supplied within Severn Trent’s annual investor presentation, the company’s licence from the government to supply water to its catchment area, requires a notice period of 25 years before it can be cancelled or sold to a competitor.
So, investors should have plenty of notice before the company loses its status as one of the UK’s premier water suppliers.
All in all, with eight million people in the UK alone relying on Severn Trent to supply them with water and sewage services, the company provides an essential service to the UK, a great trait in a buy and forget share.
What’s more, the company’s existing infrastructure and reputation indicate that barriers to entry for the industry and high and the company is unlikely to face competitors any time soon.
So overall, I rate Severn Trent as a very good share to buy and forget.
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> Rupert does not own any share mentioned in this article.