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Has Energy Controversy Made Centrica PLC Shares A Buy?

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

The business

Centrica (LSE: CNA) (NASDAQOTH: CPYYY.US) is the FTSE 100 business behind domestic fuel supplier British Gas. The company employs 33,000 staff directly. In 2012, Centrica’s operations generated £1.1bn of taxes payable to the Exchequer. Centrica is a big, blue-chip business. It plays a key part in the UK economy.

The threat

In September, Ed Miliband, leader of the opposition, announced a new energy policy. Should his party be elected in 2015, Mr Miliband has promised to freeze gas and electricity to consumers until 2017.

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Since then, the shares the have fallen significantly, out of fears that government interference could significantly damage shareholder returns.

The reaction

Before Mr Miliband piped up, shares in Centrica traded at 402p. Since then, they have fallen to 336p, close to their low for the year. Other than a sharp fall in 2008 when announcing a rights issue, I can find no other time in the last five years when shares in Centrica have reversed so quickly.

The fall does not seem entirely unreasonable. Centrica shares were trading on a generous valuation in the summer. It is fair that investors would now regard Centrica as a riskier share than they did previously. When that occurs, investors will demand a discount before buying again.

The valuation

Centrica shares today trade at 13.1 times last year’s earnings per share (EPS). At today’s price, last year’s dividend of 16.4p per share equates to a yield of 4.9%. At the half-year stage, the interim dividend was increased by 6%. If this rise is repeated with the finals, the shares will yield 5.2% this year.

Verdict

At the current valuation, Centrica is beginning to look interesting. Given how important Centrica is to the UK’s infrastructure, I do not believe that politicians of any shade will seek to wreck the company’s long term future.

The expected dividend is reasonably well covered by profits, which should give income investors some comfort. Given the political heat, Centrica is not without risk. However, for an income investor looking to build a balanced portfolio across sectors, these shares could be just the ticket.

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> David does not own shares in any of the companies mentioned.

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