Pennon Group, owners of South West Water and Bristol Water, is planning to increase its capital expenditure for the last two years of the AMP7 2020-25 investment programme to £850 million-plus.

Pennon announced the additional investment of another £100 million more than previously thought over the next two years in its latest Half Year Results for 2023/24 published yesterday. Pennon had previously given guidance of over £750 million at the time of publication of its Full Year Results for 2022/23 on 1 June 2023.

The increase comes as the water company strives to meet its commitments across priority areas of water resources, water quality, pollution reductions and storm overflows.

The Group reported a statutory profit before tax of £3.2 million (H1 2022/23 profit £20.9 million) after non-underlying costs of £5.9 million (H1 2022/23 £1.6 million). Group underlying profit before tax decreased to £9.1 million from £22.5 million in H1 2022/23. Whilst this outturn reflects a reduction in earnings compared to H1 2022/23, Pennon said it represents a marked improvement in performance compared to H2 2022/23 where the impact of elevated power pricing and financing costs resulted in a second half underlying loss before tax of £5.7 million.

Power costs up £6.5 million on same period last year

Underlying operating costs of £210.7 million increased by £19.5 million (H1 2022/23 £191.2 million). Power costs were up £6.5 million on the same period last year as a result of recent higher power prices locked in through Pennon’s hedging strategy which de-risks the business from further increases in the wholesale energy markets.

The inflationary impact on power costs accounted for £9.4 million of the increase with reductions achieved from efficient consumption management. Whilst the rates of inflation are starting to reduce, other operating costs have been impacted by higher levels of inflation, notably in respect of employee wage inflation (c.£3 million) and the impact of cost inflation across chemicals and other third party costs.

Water resources have more than doubled in comparison to 2022

In comparison to 2022, Pennon’s water resources have more than doubled, with around a third of this increase driven by investment, alongside a 45% increase in the level of rainfall.

The company has delivered new water resource and water efficiency plans, including reinvesting c.£125 million of outperformance to diversify and increase water resources across the region. Pennon has already made good progress by creating new sources through repurposing quarries as well as developing new pipelines and are on track to deliver Cornwall’s first ever desalination plant next year to improve resilience, the company said.

A water filled clay pit near St Austell, is now around 55% complete. Over 50% of the new 21km pipeline connecting this resource with Colliford reservoir is now in place – the company is on track to bring this asset online in early 2024. Once in place, Blackpool Pit will provide up to 12 Ml/day and bring the total increase to date in water supplies in Cornwall to 35%.

Storm overflows – successful rollout of monitors across 100% of the network in 2022

With regard to alleviating storm overflows and eliminating pollutions, the company saw the successful rollout of monitors across 100% of its network of storm overflows in 2022. Pennon’s WaterFit plan to 2025 focuses on healthy rivers and seas and is targeting improvements at 49 of the 151 beaches across Devon and Cornwall, with over 70 schemes in progress or completed to date to increase storm storage, introduce sewer separation and divert flows with its Green First, nature-based approach.

The improvements are being supported by the roll out of thousands of sewer depth monitors enabling proactive intervention, alongside investment at rising mains and pollution incident ‘hotspots’ across its network.

Renewable energy investments

To date Pennon has announced renewable energy investment of c.£145 million which will significantly contribute to the achievement of Net Zero 2030 targets, the company said. Alongside the smaller scale roll out of solar PV at its sites, this puts the utility on track to have secured 50% renewable energy generation by 2025, five years ahead of its initial target.

Pennon said its complementary investment in environmental infrastructure through its Pennon Power renewable generation assets, will deliver attractive commercial returns and contribute significantly to the Group’s Net Zero 2030 target. The c.£145 million investment to date across four projects will generate c.135 GWh, with the addition of two-hour 60 MWh battery storage at its Dunfermline project.

To date, Pennon Power Limited, a direct subsidiary to Pennon Group plc, has acquired the rights to build three solar farms and one co-located solar and battery storage site in the UK with a total initial capital outlay of c.£30 million. Specifically these investments include:

• A c.40 GWh site co-located solar and battery storage site in Dunfermline, acquired in May 2023. This is an attractive ready to build site, with consents in place, with total build costs expected to be c.£60 million. Generation is expected to commence in calendar year 2024.
• A further three sites, located in Aberdeenshire, Cumbria and Buckinghamshire, acquired in July 2023. These sites, with total anticipated build costs of c.£85 million, are expected to generate a further 96 GWh, and are targeted to be operational across calendar year 2025.

The company said the investment will also benefit the Group by reducing exposure to future volatility in wholesale power markets experienced this year and will provide commercial returns ahead of those earned from its regulatory water business. The sites acquired have the required consents in place and will see construction commence in 2024, with the full portfolio of assets on track to contribute to Group earnings in 2025/26.

Pennon continues to identify further opportunities to enable further renewable generation. The generating capacity of its investments to date equates to around c. 40% of its electricity usage

The Group’s B2B businesses, Pennon Water Services (80:20 joint venture with South Staffs) and water2business (30% share of a joint venture with Wessex Water), continue to win contracts, driving strong financial performance and profits.

Group continues to efficiently secure funding via Sustainable Financing Framework

The Group continues to efficiently secure funding for South West Water through its Sustainable Financing Framework, saying it would look to raise all new and renewed facilities under its Sustainable Financing Framework.

In H1 2023/24, South West Water completed its first syndicated private placement transaction with the company receiving £300 million to support the ongoing AMP7 business plan projects. Pennon said the issuance signals the move to more benchmark sized transactions as the capital expenditure and ongoing refinancing continues to increase following the integration of Bristol Water.

Since 31 March 2023, the Group has secured c.£710 million of new and renewed facilities, including:

• The first syndicated £300 million private placement with an average maturity of 12 years
• £50 million of new term loans and leasing with an average maturity of 9 years
• £100 million bilateral facility to support Group investments
• £25 million 20 year Private placement
• £235 million of new and renewed revolving credit facilities.

Pennon said that as the Group continues to grow through capital investment in its infrastructure so will its funding requirements. In the coming years, the Group is expected to manage its portfolio with larger, and more diverse debt instruments.

The Group will require c.£1 billion in new funding by March 2025 to meet AMP7 and new business opportunities through the renewables business, whilst also providing c.£300 million in readiness for the upcoming AMP8 investment period. Pennon’s £2.8 billion capital investment plan for AMP8 is its most ambitious to date.

The AMP8 business plan will be funded through additional debt, utilising the Group’s diverse portfolio via its key bilateral relationships and raising c.£2.5 billion through additional opportunities in the private placement and public bond markets. The overall funding requirement includes c.£700 million of refinancing.

“Well positioned” in capital delivery capability for AMP8 – supply chain partners appointed

Pennon said it is “well positioned” in its capital delivery capability across the South West – the company has appointed six Tier 1 delivery partners with long-term contracts that can run out to ten years. Main construction partners appointed in the west of the region include BAM Nuttall, Clancy and Mott McDonald Bentley, and in the east, Tilbury Douglas, MWH Treatment and Network Plus Envolve.

Advance planning for the transition to the plan’s delivery model has been underway since September 2022, broadening the company’s supply chain alliance, and Tier 2 & 3 partners will be ready for the start of the next financial year.

Continuing investigations by water sector regulators

Pennon is currently facing two separate investigations by regulators:

Ofwat and the Environment Agency announced an industry-wide investigation into sewage treatment works on 18 November 2021. On 27 June 2022, as part of its ongoing investigation, Ofwat announced enforcement action against South West Water Limited, the company is now included alongside the five companies which received enforcement notices in March 2022.

On 23 May 2023 Ofwat announced an investigation into South West Water’s 2021/22 operational performance data relating to leakage and per capita consumption. The operational performance data was reported in South West Water’s Annual Performance Report 2021/22. Pennon said this report is subject to rigorous assurance processes which include independent checks and balances carried out by an external technical auditor.

The company said it continues to work openly and constructively with regulators to comply with the formal notices as part of the ongoing investigations by engaging and providing information as required.

Currently, the potential outcome of the investigations continues to be unknown.