Will a windfall tax dent confidence in Centrica’s share price?

Shares in Centrica, the owner of British Gas, have seen huge gains over the past 12 months, but the government’s windfall tax could put the brakes on further rises. In the near term, the stock’s relisting on the FTSE 100 could provide some upward support.  

The UK government’s new windfall tax is good news for cash-stretched consumers, but the impact on energy producers such as Centrica [CNA.L] is set to weigh down earnings. The owner of British Gas has warned that the levy is likely to dent investor confidence. Scott Wheway, the energy company’s chair, stated at its AGM on 7 June that it didn’t see any “necessity for a legal challenge”.

Centrica is the UK’s largest consumer energy retailer. It has forecast its post-tax profits will climb to £600m this year — double last year’s figures — as energy prices continue to soar.

In the three days following the company’s statement, Centrica’s share price dipped by nearly 5%, from 84.88p on 7 June to 80.66p on 10 June. However, year-to-date the Centrica share price is still up 12.8%, and it has soared 54.9% over the past year. The stock has slipped 5.5% since news of the tax emerged on 25 May.

What impact could the windfall tax have on energy firms?

Overall, the energy sector has seen a record year, with rising oil prices due to the Russia-Ukraine war, despite broader uncertainty thanks to factors including rising inflation. At the beginning of June, the S&P 500 energy sector index increased by 3.1%, finishing at its highest point since 2014.

However, the forthcoming windfall tax is a potential blot on the landscape for investors. The 25% additional levy on the profits of North Sea oil and gas producers will last 12 months. UK chancellor Rishi Sunak said the temporary tax would raise “around £5bn of revenue over the next year”. The money will help UK households manage the cost of living crisis. 

North Sea oil and gas companies currently pay 30% corporation tax on profits, plus a supplementary 10% rate, while other companies pay 19%.

Centrica produces gas from its Rough gas field in the North Sea. It also has a 20% investment in the UK’s nuclear power programme. In January 2021, it sold Direct Energy, its US division, for £2.7bn. In April this year, the company announced a development deal for a pipeline of solar projects with Push Energy.

At its 2021 preliminary results in February, the company announced earnings per share of 4.1p, up 1.3p from 2020, and free cash flow of $1.17bn, up from £685m in 2020.

Fellow North Sea gas producer Serica Energy [SQZ.L] has said it can use incentives within the legislation to reduce its tax bill. According to the levy, if companies are willing to reinvest their profits into North Sea oil and gas production they could benefit from an overall 91p tax saving per £1.

Mixed outlook for Centrica’s share price

Centrica was booted from the FTSE 100 in 2020, after it failed to pay dividends to stockholders. A cost-saving programme which has included axing 5,000 jobs are among the measures aiding its road to recovery.

In February, Chris O’Shea, CEO of Centrica, announced a “major transformation”, saying: “2021 financial performance was resilient, and we continue to make good progress towards the turnaround of Centrica, having materially completed our portfolio simplification.”

On 24 May, it was revealed the company would re-enter the UK blue-chip index, reported Bloomberg. Back in February, it repaid a £27m government loan used to pay furloughed employees in the pandemic, according to the Financial Times. Chris O’Shea, CEO of Centrica, also declined to take a £1.1m bonus. Then, he said the company had “delivered a huge tax windfall for the government and that’s quite right”.

According to a report by McKinsey, global fossil fuel demand is expected to peak between 2023 and 2025. In the US, Morgan Stanley predicts oil could reach $150 a barrel from its current $122, Forbes reported.

Analysts at Credit Suisse last week raised Centrica’s price target from 90p to 95p in a research note issued to investors. However, despite positive stock performance, in May, analysts at HCBC downgraded its position to a ‘hold’. British Gas holds around 28% of the UK energy market share, a slump from 44% 10 years ago.

According to MarketBeat, six analysts offering a position on Centrica have a consensus ‘buy’ rating for the stock, with an average price target of 98.33p, up 21.9% from its 10 June closing price.