James Moore: National Grid has spark of success, despite Sandy and new regulations

Investment View: Utilities generally are going to get squeezed, along with their customers
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The Independent Online

National Grid

Our view Hold

Price 691p (-3p)

National Grid's dividend has been expanding like the average Briton's waistline over the festive period. Now its investors are going to have to go on a diet.

To be fair, any established company with a long history of dividend payments is going to struggle to maintain the sort of 8 per cent – and sometimes better – growth rate the company has been offering up to its shareholders in recent years.

Yesterday's increase of a shade above 4 per cent is likely to be closer to the shape of things to come in what chief executive Steve Holliday describes as a "transitional year".

The interim results the company turned in yesterday for the six months to 30 September were actually more than creditable. Overall pre-tax profits (from continuing operations) were up 21 per cent at £1.154bn, although operating profit rose by a more modest 7 per cent, excluding storms, and assuming constant currency.

That still put the company ahead of most City forecasts. However, there is a bit of a stinger looking forward: the threat of a United States class-action lawsuit from those customers left without power as a result of superstorm Sandy.

The devastating hurricane was inevitably a big focus given its impact on the company's US business and it is proving painful. The cost of dealing with it is estimated at £100m (down slightly on last year's storm toll interestingly enough) and some customers served by National Grid in the US remain without power. The fact that it could have been worse won't be much comfort to them.

The company can't legislate for mega-storms like Sandy. But its performance in clearing up the mess (and the set-up prior to it) may be tested in a courtroom. It's impossible to gauge the financial impact now, if any.

The bigger issue that overshadows the investment case is the final UK regulatory proposals over pricing due next month, a week before Christmas Eve.

These will determine the future profitability of the UK business which accounts for 60 per cent of the group.

The company will have 75 days to respond after the proposals are published and some analysts are optimistic: Bank of America Merrill Lynch speaks of the "possibility of higher allowed revenues vs the initial proposals following discussions with Ofgem and refinement of the calculations".

I'm not so sure. Faced with a public that is feeling the squeeze and rising fury over energy prices, there will be severe political fallout if Ofgem plays nice. High wholesale prices and energy companies' perceived willingness to hike prices much more quickly than they cut them when wholesale prices fall is nothing to do with the Grid.

But utilities generally are going to get squeezed along with their customers whatever service they provide, like it or not.

Still, while dividend growth will likely prove to be more modest as a result, the payment should still grow at a steady pace. And even now the company is offering a tasty prospective yield of just above 6 per cent, which is on the high side as far as utilities are concerned.

What's more, there is no reason to believe that the payment is anything other than stable. National Grid is a horse income seekers should back, and with confidence, regardless of the pricing review.

Its earnings multiple, at 12.7 times full-year forecasts, is fair too, and again by no means the most expensive among the companies which provide our gas, water and electricity.

The shares have, it should be said, been on a good run over the past 12 months and I wouldn't expect them to do much over the next few months unless Ofgem confounds expectations and does offer a better-than-expected outcome in its proposals next month.

I would be wary of buying any more right now as a result, even though the stock has come off a bit in recent days.

But National Grid looks to me to be a sound bet for income seekers so hold the shares and consider buying more on any signs of weakness.