Dividend Power: July 2015

Thursday, 30 July 2015

Centrica - things are looking up at last

Centrica (CNA.L): When I last wrote on Centrica, in April, the share price was 265p. The General Election loomed, the Competition and Markets Authority investigation of the “Big 6” energy suppliers was in full swing and the new CEO, Iain Conn, had wheeled out a biggish kitchen sink. There seemed to be no rush to invest. Today the share price, having bottomed at 235p, is barely changed from then at 269p, albeit investors have scooped the 8.4p final dividend. There may still be no rush to invest, but the CMA’s initial findings were fairly benign and Dave the Chameleon surprised himself, and everyone else, by romping home in the election. The Labour Party had a dreadful time at the polls and their current flirtation with a Corbynesque lurch to the left reduces their ballot box appeal further. So the backdrop for Centrica (and other domestic utilities) has brightened.

In today’s interims, to 30^th June 2015, revenues fell by 2%, with adjusted operating profit down 3% to £1bn but adjusted eps up 17% to 12.3p. This was the benefit of the tax charge falling as a result of the reduction in upstream profits, whilst downstream profits increased. As previously forecast the interim dividend has been cut by 30% to 3.57p. Group net debt fell by 6% to £4.9bn, helped by positive free cash flows. In the strategic review, the group is re-focussing on the downstream energy customer. This means that E&P and central power generation are to be reduced in scale. Over the next five years £1.5bn of resource will be taken away from these areas, thus freeing up capital. They will exit from wind and their nuclear interests will “be regarded as a financial investment”. They are targeting £750m in cost efficiencies by 2020, with two-thirds due by the end of 2018, (although this becomes £300m once they adjust for smart meter roll-out and other “growth areas”). 6000 jobs will go, offset by 2000 new jobs in these growth areas. All this should help secure their investment grade credit ratings and achieve the return on average capital employed of 10%-12%. In the long term they are targeting operating cash flow growth of 3%-5% per annum, with dividend growth to reflect “sustainable operating cash flow growth”. This is predicated on “flat real oil and gas prices and normal weather”.

So if they deliver on consensus eps for this year of 18p, the PE is 14.9x. The 30% dividend cut takes us to a base of about 12p for the year, equivalent to a 4.5% yield. So it has been a rough year for Centrica, but the new CEO is bedded in, his strategic plan is in place and political and regulatory risks have receded somewhat. All this points to the conclusion that now is a good time to start squirreling the shares away again. (Neil Cumming^,30^th July 2015)

These comments are not a personal recommendation to deal. Any investments can fall as well as rise in value, so you could get back less than you invest. I may have a financial interest in some of the stocks written about. www.dividendpower.co.uk or e-mail at info@dividendpower.co.uk Twitter: @DividendPower

Royal Dutch Shell - can you ignore a 6.5% (and growing) dividend?

Royal Dutch Shell ‘B’ (RDSB.L): Along with today’s half year results, to 30^th June 2015, the group has issued a ‘big picture’ update. In this they re-iterate that they are committed to paying a CY2015 dividend of $1.88 per share. The official sterling dividend rate will not be announced until early September, but at today’s spot rate of £:$1.56 that is 120.5p. On the back of today’s announcements the shares have rallied to 1840p, where the yield is 6.5%. Normally shares sporting such a high yield raise the question of whether it is sustainable, but in Royal Dutch’s case they are committing to paying “at least” $1.88 in CY2016. In addition they are looking to a $25bn share buy-back programme in 2017-20. All this raises the question of whether they can deliver on these commitments? Well with the oil price in turmoil they are fully part of the trend to slash away at operating costs. At the same time capex is being curtailed with this year seeing a greater than previously announced $7bn (or 20%) cut to $30bn, with a pro-forma BG/RDS forecast for CY2016 of $35bn. The proposed deal to acquire BG is steadily negotiating the regulatory hurdles towards completion in early 2016 and the enlarged group will have all the more asset disposals, cost efficiencies and capex rationalisation to harvest. They foresee synergies by 2018 of at least $2.5bn. The balance sheet is already strong with gearing at just 12.7%, slightly up from 12% at the year-end.

All this jam tomorrow makes today’s numbers a bit of a sideshow, but they beat consensus with second quarter earnings (on a current cost of supply basis) of $3.8bn, leaving the first half at $7.1bn, down 47%. On the same basis eps for the half were down by the same percentage at $1.12, with cashflow down 42%, but still a whopping $13.2bn. The group appears well placed to see out the current storms in the oil market and the BG deal could be a masterstroke of timing. The combined group would have plenty of self-help to go for and any end to the oil glut would give them a handsome tailwind. Any stock with a 6.5% yield that is forecast to increase its dividend (albeit with $ currency risk) must be in long term portfolios, unless you believe that the oil market is so wrecked that RDS will not be able to deliver on its commitments. (Neil Cumming^,30^th July 2015)

Wednesday, 29 July 2015

Premier Farnell - the dividend is threatened

Premier Farnell (PFL.L): Ouch. I have been becoming increasingly concerned that this stock might have to cut its dividend. Today’s profit warning has made me think that the dividend should be cut, a message which Premier’s shareholders and lenders will probably also be telling Premier right now. The second quarter seems to have been something of a disaster with group sales growth per day slowing to 1.2% from 5.4% in the first quarter. This leaves the first half sales growth figure at 3.3%. In a gloomy roundup the group cites the UK and North American markets as being particular weak, with the overall European division slowing from 5.9% to 2.2% and the Americas from 2.2% to just 0.4%. Even these group numbers are flattered by sales of the lower margin Raspberry Pi (despite “constrained availability”) without which group sales slowed from the first quarter’s 1.9% to 0.8%. A ray of light is that gross margins should have picked up a bit in the second quarter and operating costs are still under their cosh. When they crunch all this through they now expect first half underlying operating profits to be down 10% on last year and at similar levels in the second half. This has led the board to go for the strategic review option, with the results due alongside the interims being announced in September. It all seems a long way from the upbeat targets of the recent 2014/15 strategic review.

Now for my fag packet calculations, which are just that, but give a flavour of the issues. There is a £2m provision release due, but let’s simply pencil in pre-tax profits down 10% and adjusted eps down by the same to 12.4p. That would be a PE of just 11.3x at today’s red-ink share price of 140p, but suggests that the market can see the CEO, Laurence Bain, eyeing up a kitchen sink. The dividend of 10.4p would still be covered, just, which would be a 7.4% yield. However, net debt to EBITDA at the latest finals was 2.5x and despite good headroom on their debt facilities, lenders will be worried that the ratio must be up to 2.8x just based on the EBITDA forecast reduction. We must be at the point that shareholders and lenders tell the board that the current high dividend is now a luxury to be given up in September. Then the next stage would be whether a company with a sales line of £1bn and an enterprise value of under £800m would attract a new bunch of investors, but there seems little rush. (Neil Cumming^,29^th July 2015)

Tuesday, 28 July 2015

McColl's Retail - the big dividend yield is hard to ignore

McColl’s Retail (MCLS.L): Patience is a virtue much needed with this stock, but the yield is hard to ignore. In today’s unsurprising interims, to 31^st May 2015, revenues were up 3.4% and LFL sales down 1.9%, but these were a bit worse than the opening weeks of the period. Within the breakdown, the premium convenience, and food & wine formats (almost two-thirds of the store portfolio) were holding their LFLs, but the newsagents and standard convenience were down 4.7%. Price deflation, along with falling news and tobacco sales, were two key factors in this trend. The process of converting and evolving more outlets into the better performing formats continues, with 16 conversions and 25 additions taking the total to 837 (alongside 496 newsagents). They remain on course to hit their target of 1000 ‘formatted’ stores by the end of 2016. In addition they now have 483 in-store post offices, on course for 5000 later this year. Adjusted EBITDA inched up 1.9% to £16.2m, whilst pre-tax profits were £7.6m against a £4.0m loss, part of which was pre-IPO. Adjusted eps rose 45% to 6.1p and the interim dividend was 3.4p (effectively flat against last time’s pro-rated 1.7p). Net debt increased from £36.3m to £47.3m, but this was partly due to timing differences on creditor payments. On an adjusted basis the company quotes net debt as being down slightly at £35.3m, this being 0.9x historic EBITDA.

The competitive backdrop remains fierce, with Booker being notably active in building its estate. Deflation and the steady decline in news and tobacco do not help either. Neither does George Osborne’s sudden embrace of the Living Wage, which will push up their wage bill in the coming years. (As an aside, I suspect that cheaper shop assistants under 25 years old will become more marketable.) Yet McColl’s has the advantage of self-help as it improves the profile of its estate and increases the proportion of outlets that are in its preferred formats. (There is plenty to be done in my tatty local!) The shares have picked up from their lows, but are still only 158p. On say 15p of eps in FY2015, that is only a PE of 10.5x whilst a likely 10.1p dividend would be a yield of 6.4%. In FY2016, modest eps progress to say 16.0p takes the PE down to 9.9x, where a 10.4p dividend would produce a juicy yield of 6.6%. I can’t see this stock winning any beauty parades, but the high yield makes it worth supporting. (Neil Cumming^,28^th July 2015)

Thursday, 23 July 2015

SSE - it could have been so much worse

SSE (SSE.L): It could have been so much worse, couldn’t it? Ed Miliband as Prime Minister, with Ed Balls riding shotgun. A price freeze and/or cuts imposed on the energy utilities. The Competition and Markets Authority (CMA) firing off both barrels, demanding break ups of the big six suppliers and new entrants being favoured. Instead it seems to be almost business as usual barring a gradual tightening of the regulatory regime over successive review periods. A broadly business friendly Tory Government is ensconced and Labour is in turmoil as it seeks both a new leader and a new direction. The CMA has produced a list of proposed remedies, but came up well short of trying to re-write the industry landscape. In this first quarter trading statement (to 30^th June) SSE reported a 10.5% increase in gas- and oil-fired output, although a weak market saw the smaller coal-fired segment collapse by 77%. Some of this drop was clawed back by a 36% jump in renewable output. Retail customer numbers edged back further, from 8.58m to 8.49m. The group has re-iterated its minimum 115p eps forecast for FY2016 and that the annual dividend should be increased by at least RPI. Over the longer term they want to continue RPI-plus dividend increases, whilst noting that their long term dividend cover ratio target of 1.5x, is more likely to be 1.2x to 1.4x in this and the subsequent two financial years.

Back in January, when the shares were 1517p, I felt that the political and CMA risks were too high to make the shares attractive. In addition the balance sheet does carry a lot of debt, but that can be just about justified at a low risk utility. Having gone XD today, the share price on my screen is back at 1517p. On 115p of eps that is a PE of 13.2x and a 90.5p dividend would equate to a yield of 6.0%. In a low inflation environment, nominal growth at SSE will be mundane, but as a high yielding inflation hedge, the stock once again has its attractions. Utilities won’t be everyone’s cup of tea in a rising interest rate environment, but having been on the sidelines, I would now put a few back into portfolios. (Neil Cumming^,23^rd July 2015)

Electrocomponents - still fretting about the dividend

Electrocomponents (ECM.L): I am still fretting about this stock’s dividend. Today we had the first quarter update to 30^th June 2015. The good news was that underlying sales growth has picked up slightly, to 5%, led by International (over 70% of group sales) growing at 7%. Within this Europe was up 13%, whilst slowing US economic growth saw North America growing at 3% whilst Asia was flat. The UK sales line was down 1%, but that implies a modest pick up since the last update. The migration to on-line business continues with eCommerce sales up 10% and now above 60% of the group total. However, gross margin was down 1.7% over the quarter, reflecting pricing and currency headwinds. The group says that as it hits easier comparatives in the second half and management actions take effect, they foresee some relief to full year gross margins.

The new Chief Executive, Lindsley Ruth, comments that there is “much to do to” in boosting sales growth in UK and Asia and stabilizing gross margins. He may be being cautious but aiming to stabilise gross margins is different to restoring them to previous levels. The half-year results in November will be the time that he unveils his plans on how to take Electrocomponents forward. Consensus forecasts for FY2016 are for barely any eps growth with 13.3p expected against last year’s 13.2p. That is a PE of 15.6x at today’s 208p. The support for the shares is the thinly covered 11.75p dividend, producing a yield of 5.6%. The board could maintain this, but my gut tells me that Ruth may well take the chance to lower the base in his autumn review, so that he can then start posting increases from then. Just as an illustration, a modest kitchen sink to 12p of eps for FY2016 and a move to a two-times dividend cover would be a payout of 6p and a yield of 2.9%. I felt in May that the shares were a potential value trap at 239p and despite the lower share price now, I would still hold off buying. (Neil Cumming^,23^rd July 2015)