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Morningstar | SSE Discloses 2019 Results and 2020 EBIT Guidance in line With Expectations; Shares Undervalued

We reiterate our fair value estimate of GBX 1,380 per share and our narrow-moat, stable trend ratings after SSE released 2019 fiscal-year results in line with estimates. The Labour Party's threat of nationalising the network might weigh on the share price for some time. Still, the undervaluation of the shares and 2020 dividend yield of 7.7% give a safety margin to patient investors.

Adjusted earnings per share tumbled 32% to GBX 67, within the GBX 64 to GBX 69 guidance range and in line with the consensus, although above our GBX 58. Adjusted EBIT dropped by 27% to GBP 1.14 billion. Adjusted operating profit, including retail energy activities which are classified as held for disposal, fell by one third to GBP 1.23 billion, above our GBP 1.11 billion.

As expected following the September 2018 profit warning, the main negative driver was wholesale businesses, whose EBIT collapsed by 71% on a significant trading loss. Still, wholesale businesses' EBIT was well above our estimates because of better wind and hydropower conditions than we expected. Held-for-sale retail energy activities' EBIT collapsed by 68% to GBP 90 million, below our GBP 130 million estimate. The division was hit by the tariff cap and high churn of 9%, or 0.61 million customers, versus our 8%. Churn in the second half was in line with the first half. On a positive note, networks' EBIT increased by 9%, above our 5% growth estimate, because of electricity distribution.

For 2020, SSE guides for improving group's operating profit despite the negative effect of the unfavorable phasing of profits in networks and hedging below market prices for renewable output. Because of the latter, we should lower our 2020 EBIT estimate by about GBP 100 million to GBP 1.5 billion excluding retail, in line with consensus' expectations. Hedging will also effect our 2021 and 2022 estimates but not our long-term estimates based on current market prices in the U.K., so the valuation effect will be limited.

Adjusted 2019 net debt increased by GBP 0.16 billion to GBP 9.4 billion. Notably, SSE received GBP 1.1 billion of cash after it disposed of stakes in wind farms and noncore telecommunication businesses. For 2020, the group guides for an adjusted net debt of GBP 10 billion, implying a yearly change roughly in line with our estimates. Last, SSE confirms its dividend of GBX 97.5 per share in 2019, GBX 80 in 2020 and growth in line with inflation until 2023.