Pennon Group upgraded to buy from neutral at UBS - Viridor 'underappreciated'

Patel highlights the benefits of good income vs government bonds, the sector?s positive gearing to rising inflation and the potential for M&A, citing Pennon as one of UBS's preferred plays.

Pennon trades cheaply, has the lowest cost of financing in the water sector and owns a strong growing waste business in Viridor. 'Furthermore we believe the risk of a rights issue is virtually zero.'

Viridor is underappreciated by the market and is well positioned to grow, says Patel. 'We expect profit from operations to grow 109% over the next five years, with the key determinants of growth coming from power generation, incineration and recycling.'

He adds, 'The EU regulatory environment and the increasing landfill tax in the UK have created a structural shift in the way waste is managed. Higher costs of landfill will make alternative waste disposal technologies more attractive, as the gate fees increase.'

Other drivers for the industry are power prices, renewable obligation certificate prices and recycled materials prices.

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