This U.K. Energy Stock Is Inflation-Proof and Geared for Green Power
Russia’s invasion of Ukraine unleashed chaos in European energy markets this year. The sudden shortfall of natural gas is raising fears about how the region will cope with sky-high prices.
SSE , once one of the United Kingdom’s famous Big Six power providers, may nevertheless be in good shape after selling off its retail business and focusing on renewables ahead of the crisis.
It now relies relatively less on gas for power generation, while still being able to take advantage of higher wholesale power prices. SSE (ticker: SSE.UK) isn’t exposed to households’ ability to pay whopping heating bills. And the company’s outlook brightened after new Prime Minister Liz Truss ruled out a windfall tax on profitable energy firms.
SSE traces its roots to regional electricity boards set up in the 1940s in the Scottish highlands and southern England. After the breakup of state-backed regional energy providers under Margaret Thatcher, consolidation eventually led to an oligopoly. The Big Six, of which SSE was one of the largest, provided power to 99% of U.K. households by 2008.
In response, the government pushed to give consumers more choice in 2016, making it easier to set up a company to provide electricity and gas to homes. That increased competition, but also sowed the seeds of future problems.
The U.K. sets a ceiling for prices retail providers can charge households, which authorities adjust periodically. That smooths price changes for consumers, but distributors still have to buy the power from wholesale markets where prices are more volatile. The system was breaking down well before the Ukraine war, as the end of the pandemic pushed prices up. In September 2021, dozens of poorly hedged providers were already going bust.
The Ukraine conflict made things worse, raising the possibility that large numbers of families would be unable to pay for heating this winter as retail prices followed wholesale prices up. That ultimately led Truss to announce a two-year ceiling on power prices at an estimated cost of 150 billion pounds sterling ($175 billion) to taxpayers.
The only drama for SSE was whether the move would be accompanied by a windfall tax to pay for the support. SSE had disposed of its retail business to OVO Energy in 2018, putting an end to the Big Six in the process. Though it’s always possible for a government to change its mind, Truss’ pledge not to use a windfall tax seems to have put SSE in the clear.
Perth, Scotland–based SSE employs 10,754 workers and has a market value of £19 billion. Shares in energy supplier and power generator are up 5% this year to £17.32. Among the analyst ratings collected on FactSet , eight have the equivalent of a Buy rating the stock and two have it as a Hold. SSE fetches 14 times this year’s expected earnings and is valued in line with its peers.
Most of the company’s profit comes from power generation and its networks that distribute electricity and gas. About half of its wholesale power generation comes from wind and renewables, and it is investing heavily in more offshore wind capacity. While the prices in its distribution networks are regulated by the government, they are indexed to inflation.
The company issued a trading update on July 21, saying that the first quarter had exceeded expectations and reaffirming guidance for earnings per share of at least 120 pence for the fiscal year ending in March 2023, up from 95.4 pence last year.
“SSE’s business mix provides a favorable positioning against high inflation,” says Tancrede Fulop, an analyst at Morningstar who gives the shares a fair value of £19.30. “Since its exit from the supply business, the firm does not bear risks related to high energy prices.”