Investments In Renewables Will Drive Future Profitability Amid Global Decarbonization Trends

Key Takeaways

• Strategic investments in renewables and networks are driving predictable profitability and improved future net margins.
  
• Positioned to leverage decarbonization trends, SSE's focus on clean energy signals strong future earnings potential.
  
• Leadership transition and project delays, alongside rising debt and reliance on government policies, pose risks to SSE's strategic growth and earnings stability.

Catalysts

Engages in the generation, transmission, distribution, and supply of electricity.

• The company is midway through a 5-year investment plan targeting around £20 billion in CapEx by 2027 to drive long-term earnings growth, indicating substantial future revenue and earnings potential.
  
• SSE is strategically positioned to benefit from accelerating decarbonization and electrification trends, particularly in the UK, EU, and Japan, enabling future revenue growth from expanding clean energy portfolios.
  
• The focus on networks and renewables has led to a significant increase in operating profit from these divisions, showcasing a shift towards more predictable, sustainable profitability, which is likely to improve future net margins.
  
• Investments in new technology and capacity expansions, such as offshore wind and battery projects, are designed to provide high-quality, sustainable earnings growth, suggesting strong future earnings outlook.
  
• SSE's strong balance sheet and capital discipline facilitate increased investment in infrastructure essential for energy transition, creating opportunities for earnings growth through increased asset base and regulated asset value in electricity networks.

SSE Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming SSE's revenue will grow by 3.1% annually over the next 3 years.
• Analysts assume that profit margins will increase from 18.7% today to 19.3% in 3 years time.
• Analysts expect earnings to reach £2.1 billion (and earnings per share of £1.89) by about December 2027, up from £1.9 billion today. However, there is some disagreement amongst the analysts with the more bearish ones expecting earnings as low as £1.8 billion.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 13.7x on those 2027 earnings, up from 9.3x today. This future PE is lower than the current PE for the GB Electric Utilities industry at 20.7x.
• Analysts expect the number of shares outstanding to grow by 1.18% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 5.99%, as per the Simply Wall St company report.

SSE Future Earnings Per Share Growth

Risks

• The transition in leadership as Alistair Phillips-Davies plans to retire may introduce uncertainties that could affect strategic leadership, potentially impacting revenues and investor confidence.
  
• The ongoing issues and delays in projects like Dogger Bank, particularly related to turbine installations, could lead to increased costs and affect the expected returns, thereby impacting net margins and earnings.
  
• Rising adjusted net debt levels, partly due to large capital expenditures on projects, could lead to increased interest expenses, impacting net margins and the company's ability to fund future growth initiatives.
  
• Heavy reliance on expected supportive government policy in the U.K. and geopolitical uncertainties in international markets such as Japan and the EU could pose risks to revenue and strategic growth if these conditions change unfavorably.
  
• Changes in carbon pricing policies or emissions trading, especially in the U.K., could impact the pricing and profitability of SSE's thermal generation assets, affecting overall earnings stability.

Valuation

• The analysts have a consensus price target of £21.75 for SSE based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of £24.86, and the most bearish reporting a price target of just £17.08.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be £11.1 billion, earnings will come to £2.1 billion, and it would be trading on a PE ratio of 13.7x, assuming you use a discount rate of 6.0%.
• Given the current share price of £16.12, the analyst's price target of £21.75 is 25.9% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.