Why I’m Bullish On Severn Trent Plc

Severn Trent (LSE: SVT) has been working extremely hard in recent years to deliver consistently high returns to shareholders.

Indeed, return on equity has been high over the last four years; averaging just over 24% over the period and being in excess of 27% last year.

Moreover, the really impressive aspect of the returns delivered to equityholders is the stability of those returns. Return on equity has ranged from 17.8% to 27.3% over the last four years and this should give private investors in the company a degree of confidence in its ability to continue to offer relatively high returns in future years.

Such confidence is a rarity in the current economic climate and the fact that Severn Trent appears to offer it is a big plus for its shareholders.

Interestingly, Severn Trent’s share price chart has had a fairly steady year to date, with the exception being the bid approach in May, which was subsequently knocked back by the board.

As a result of this approach, shares spiked to over 2075p before crashing back to earth and dropping as low as 1600p before gradually recovering to their current 1800p level.

Bid approach aside, Severn Trent’s shares have been relatively steady in 2013 and this could be a major plus point for private investors who are sceptical that the stock market will continue to rise. Such stability may seem dull to many investors but Severn Trent could play a very useful role in defending the return of capital (rather than solely focusing on the return on capital), as evidenced by the stable progress its share price has made this year.

Indeed, in recent weeks shares have dipped slightly and this could provide an attractive entry point for investors wishing to take a stake in the company.

In terms of value, Severn Trent appears to be reasonably priced. It trades on a price-to-book ratio of just over 5, although its capital structure is made up mainly of debt which means that there is a relatively small amount of equity.

As mentioned, the good thing about having a capital structure such as this is that returns to equityholders are increased and, although a price to book ratio of 5 may seem rather high, the goodwill included in the share price may be worth paying for when the consistently high returns that Severn Trent has delivered in the recent past are taken into account.

Of course, being a utility Severn Trent is probably most attractive to income seeking investors.

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> Peter does not own shares in Severn Trent.