After the initial euphoria following the Labour Party’s demise at the ballot box in May, investor enthusiasm towards energy providers like Centrica (LSE: CNA) and SSE (LSE: SSE) has soured once again.
Shares in Centrica galloped more than 8% higher in the fortnight following the election, while its industry rival climbed almost 10% during the same period. But while the threat of Ed Miliband and his promises to shake up the industry — from introducing 20-month price freezes, through to granting Ofgem the power to cut tariffs — has now been consigned to history, the energy providers still face a minefield of problems to overcome.
Tories turn up the heat
Indeed, news that the Conservatives’ new energy secretary Amber Rudd has already written to the ‘Big Six’ suppliers, urging greater correlation between retail charges and wholesale energy prices, has shown that questions over profit levels at these firms is not likely to go away anytime soon. And this is not a great surprise: Chancellor George Osborne was calling for Centrica et al to pass on the benefits of declining energy costs at the start of the year.
Aside from Westminster, the country’s major suppliers remain under scrutiny from the Competition and Markets Authority (CMA), whose ongoing investigation into the stranglehold these firms have on the market could have a devastating effect on how the companies operate in the future. And should the report find that major suppliers are enjoying unfair barriers to strong competition, then Ofgem could even be encouraged to initiate a break-up of the likes of Centrica and SSE.
This negative newsflow is already having a devastating effect on both firms’ customer bases and switching activity to other suppliers continues to pick up. Indeed, SSE saw its number of dual-fuel accounts slip to 8.6 million as of March from 9.1 million at the same point in 2014, while Centrica’s residential subscriber base dipped to 14.8 million last year from 15.1 million in 2013.
Price set for rapid retreat?
So although Centrica and SSE have suffered extreme price weakness in recent weeks, I believe that the problems discussed above could lead prices still lower.
With Centrica expected to endure a further 6% bottom-line slip in 2015, this figure leaves the business dealing on a P/E multiple of 14.7 times prospective earnings. And SSE changes hands on a reading of 13.9 times amid predictions of a 12% earnings slide.
Although these are numbers can hardly be described as shocking, I believe that a reading closer to the bargain touchstone of 10 times would be a fairer reflection of the upheaval facing the firms looking ahead. Under such a scenario SSE’s share price would shuttle 31% lower, to 1,098p per share from 1,585p currently. And its peer would surrender 32%, to 180p per share from a current price of 264p.
Should the key players in Westminster, regulators and consumer groups continue to make a noise over the profitability of Centrica and SSE, I believe that shares could be in severe danger of such a sharp correction.
