Drax Group Plc (LON:DRX) has taken a significant step forward in securing the future of its biomass units with a newly agreed support mechanism. Longspur Research highlights that this development ensures the company’s continued role in the UK’s decarbonisation strategy while maintaining financial strength.
Strategic Support for Biomass Operations
Drax has successfully negotiated heads of terms with the UK Government, securing support for its biomass units from April 2027 to March 2031. The deal operates under a Contract for Difference (CfD) mechanism, offering an adjusted strike price of approximately £170/MWh, compared to the previous £100/MWh (2012 terms). While total output will be reduced from 14TWh to 6TWh, the company retains the ability to sell additional merchant power, particularly during peak periods, creating potential for strong profitability.
Earnings Potential and Gain Share Mechanism
Longspur Research notes that the new agreement allows for flexibility and potential upside through a gain share mechanism. If annual cash operating profit exceeds £160 million, Drax will share 30% of the excess, rising to 60% above £210 million. The company has provided EBITDA guidance of £100 million to £200 million, with Longspur Research suggesting that market tightness from FY27 could drive peak prices higher, enhancing merchant revenue opportunities.
Financial Outlook and Valuation Impact
Despite the revised CfD terms and output adjustments, Longspur Research maintains confidence in Drax’s valuation. The central case valuation is adjusted slightly to 988p per share from 1,023p, reflecting an anticipated £167 million EBITDA from biomass in FY28. However, with strong pricing in a tight market, there is potential for further upside.
The research also highlights forecast adjustments for FY27 onwards, incorporating the new support mechanism while accounting for changes in depreciation and hydro business assumptions. The overall impact is seen as manageable, reinforcing Drax’s position as a key player in the UK’s energy transition.
Investor Confidence and Market Performance
Drax’s stock has shown strong performance, with a 12-month increase of 51.2%, demonstrating investor confidence. Major shareholders include Invesco (6.8%), Vanguard (6.2%), Orbis Allan Gray Ltd (5.4%), Schroders (5.0%), and BlackRock (4.5%), among others.
Drax Group’s newly secured biomass support mechanism strengthens its role in the UK’s energy transition while offering long-term earnings visibility. With strategic flexibility, a favourable pricing structure, and strong investor backing, Drax is well-positioned to deliver sustainable growth. As Longspur Research highlights, the company’s ability to leverage merchant sales and ancillary services could lead to earnings at the higher end of guidance, making it an attractive proposition for the future.
