Moody’s Downgrade Is Yet Another Reason To Sell Centrica PLC And SSE PLC

Shares in energy provider Centrica (LSE: CNA) have suffered a sobering end to the week after ratings agency Moody’s elected to cut the firm’s investment grade — to Baa1 from A3 previously — on Thursday evening.

Moody’s said that it was “downgrading Centrica’s ratings primarily because lower energy prices and generally poorer trading conditions have hurt the company’s profitability and weakened its financial profile“.

Centrica tried to downplay the development today by commenting that “Centrica continues to target strong investment grade credit ratings, and Moody’s Baa1 rating is consistent with this target“. But in reality the news is another bodyblow to the ailing power giant.

Financial firepower beginning to dim

Indeed, Centrica announced in February that it was rebasing the dividend by 30% in a bid to “operate with strong investment grade credit ratings“, so yesterday’s news is something of a smack in the face.

The company has also scaled back capital expenditure and accelerate cost-cutting to bulk up the balance sheet, an absolute necessity given the multitude of problems facing the business. Centrica saw operating profit rattle 35% lower last year, to £1.7bn, as a collapsing oil price smashed the bottom line at its upstream division and its British Gas customer base continued to decline.

These problems look set to keep troubling Centrica looking ahead, a situation that should continue to play havoc with the firm’s colossal debt pile — this rose 5% last year to an eye-watering £5.2bn.

A tough environment gets still tougher

And Centrica’s ratings downgrade should also come as worrying reading for industry rivals such as SSE (LSE: SSE). Like its London-listed peer, SSE is also reporting collapsing customer numbers as consumer groups and politicians alike encourage customers to switch providers, an issue exacerbated by the growing number of smaller, independent suppliers.

Although SSE announced in January that it expects earnings for the year ending March 2015 to come in line with those punched in the previous period, it advised that “its ability to deliver increases in adjusted earnings per share is subject to additional risk in 2015/16 and 2016/17.” With SSE’s liabilities also ticking higher — the firm expects net debt and hybrid capital to rise to around £7.8bn this year from £7.64bn in fiscal 2014 — the firm may also be forced to take the hatchet to the dividend.

With Ofgem keeping a close eye on the profitability of these firms, and politicians turn up the heat ahead of May’s general election — indeed, Labour’s Ed Miliband vowed last week to give the regulator the power to reduce what energy providers charge their customers — the trading environment is becoming more and more precarious for the country’s major suppliers.

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