Jefferies resumes Drax coverage at “buy,” citing strong earnings visibility

Jefferies has resumed coverage of Drax Group with a "buy" rating and a 750p price target, citing improved earnings visibility and limited regulatory risk. Their FY25-27 EBITDA and EPS forecasts are above consensus, driven by hedged power prices and a stable outlook, with minimal impact expected from potential zonal pricing changes in the UK. Drax's shareholder-approved buyback program and strong balance sheet, projecting net debt to EBITDA at 0.9x through 2028, further support the positive outlook, while the biomass bridging mechanism is expected to contribute £100-200 million in annual EBITDA from 2027-2031.

Analysis

Jefferies has initiated coverage on Drax Group PLC (LON:DRX) with a 'buy' rating and a 750p price target, indicating a potential 13% upside from its prior closing price of 661p. This positive outlook is underpinned by enhanced earnings visibility and perceived limited exposure to regulatory risks. Jefferies' financial model projects Drax's FY25–27 EBITDA and EPS to be 2% and 5% above Visible Alpha consensus, respectively, with specific EBITDA estimates of £891 million for 2025 and £680 million for 2026, bolstered by hedged power price exposure and a stable earnings trajectory. The brokerage anticipates minimal adverse effects on Drax from the potential introduction of zonal electricity pricing in the U.K.; while hydro assets in northern regions might experience some pressure, the company's Open Cycle Gas Turbine (OCGT) plants in the south, due to commence operations in 2025, could achieve higher margins under such a system. Drax's financial position is further strengthened by shareholder approval for a share repurchase of up to 10% of its stock, complementing an existing £300 million buyback program, and a robust balance sheet with net debt to EBITDA projected at a low 0.9x through 2028. Although the 750p price target represents a slight reduction from previous levels, attributed to increased uncertainty regarding returns from the Cruachan hydro expansion and a revised net debt figure inclusive of lease liabilities, the long-term outlook remains positive. A significant future earnings contributor is the biomass bridging mechanism, which, if finalized with the U.K. government, is anticipated to generate £100 million to £200 million in annual EBITDA from April 2027 to March 2031, with Jefferies modeling £150 million. Upcoming potential catalysts include Drax's first-half 2025 results due on July 31 and the expected finalization of the bridging mechanism terms during the summer.

Key Decisions for Investors

• Investors should consider Jefferies' 'buy' rating and 750p price target, supported by improved earnings visibility, above-consensus forecasts, and significant shareholder return programs.
• Monitor key upcoming catalysts, including Drax's H1 2025 results on July 31 and the final terms of the biomass bridging mechanism, which could materially impact future EBITDA.
• Assess the potential upside from Drax's southern OCGT plants if U.K. zonal pricing is implemented, alongside the strong balance sheet providing financial flexibility.
• Evaluate the slight reduction in Jefferies' price target in the context of specific project uncertainties and accounting changes, while noting the overall positive long-term earnings contributors like the biomass bridging mechanism.