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Centrica - Weak Business division leads to profit warning

George Salmon | 23 November 2017 | A A A
Centrica - Weak Business division leads to profit warning

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No news or research item is a personal recommendation to deal. All investments can fall as well as rise in value so you could get back less than you invest.

Centrica plc Ord 6,14/81p

Sell: 51.32 | Buy: 51.36 | Change -0.14 (-0.27%)
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Weakness in the group's business-facing divisions means adjusted earnings per share is set to be behind market consensus at around 12.5p. This includes a 0.8p negative impact from a one-off charge relating to its business-facing operations in North America. The shares fell 12.3% on the news.

Our View

Centrica is in the midst of a turnaround. We can see the attractions of where it is trying to get to, but the journey is proving to be far from smooth.

Between 2007 and 2014, Centrica invested billions in upstream exploration and production (E&P) assets, leaving it very exposed when the cycle turned. The net result was a 30% dividend cut, and a share placing to shore up the balance sheet.

The group is now shifting its focus away from the potentially volatile world of E&P. Costs are being slashed and capital investment is set be significantly lower. The focus is instead on its cash generative downstream businesses in the US and the UK, namely Direct Energy and British Gas.

The group has the best part of 30 million existing customers as well as strong, recognisable brands. If it can play to these strengths, through cross-selling additional services (such as the Hive connected hubs) and improve efficiency, it should be capable of growth.

Early progress on the transformation was reasonable. However, with 2016's dilutive share placing still lingering in the memory and political pressure for changes in the retail division growing, many investors remained jittery.

In that context, November's trading update was particularly unwelcome. With heavy retail customer outflows and more difficult trading conditions in the commercial division, both areas Centrica is looking to focus on are evidently under pressure.

By pointing out that cash generation is still heading in the right direction, and should support the dividend in February's full year results, Centrica is clearly trying to steer investors away from any thoughts of a dividend cut.

However, even before the sharp price fall, the prospective yield was 7.6%. In the current climate, a yield that high tells us the market thinks the future dividend prospects look uncertain at best.

Trading statement:

Centrica Consumer

UK energy supply accounts have fallen by 823,000 since the half year to 13m. The bulk of these switches relate to collective switch, white-label fixed price and prepayment tariffs.

Despite the account losses and warmer than normal weather, improved cost efficiencies mean UK full year adjusted operating profit is expected to be in line with 2016.

In North America, accounts have fallen slightly, and H2 2017 adjusted operating profit is expected to be at a similar level to H1 2017.

Centrica Business

Centrica says trading conditions remain highly competitive and recent performance has been disappointing.

Depressed margins in the North American business are expected to limit adjusted operating profits to £80m. The UK is also facing pricing pressure, and is expected to break even this year.

Energy Marketing & Trading continues to perform well, although as previously disclosed the £105m operating profit in H1 will make up the majority of profit for the year.

Asset businesses

Commodity prices have improved, but a recent outage at the Morecambe field means second half adjusted operating profits are expected to be similar to the £99m reported at the half year. Centrica storage is expected to be profitable in the second half.

The group remains confident of hitting operational targets, including over £2bn of adjusted operating cash flow and £2.5-£3bn of net debt.

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Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.