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Compass - North America serves up profit growth

Nicholas Hyett | 20 November 2018 | A A A
Compass - North America serves up profit growth

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Compass Group plc Ordinary 11.05p

Sell: 1,704.50 | Buy: 1,705.00 | Change 56.00 (3.41%)
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Full year underlying revenues rose 5.5% to £23.2bn, thanks to a very strong result in North America, while a slight improvement in margin saw operating profit rise 7.1% to £1.7bn.

A lower US tax rate and share buyback saw both earnings per share and the dividend rise 12.5%, to 77.6p and 37.7p respectively.

The shares rose 2.6% in early trading.

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Our View

Contract catering is an intrinsically attractive business. Since Compass typically uses equipment and facilities owned by the client, little capital needs to be invested up front and returns can be strong. Compass has a return on capital employed of over 20%.

Low capital requirements help generate healthy cash flows, which have in turn helped the group grow its ordinary dividend every year for over a decade. Compass has also paid significant sums in share buybacks and special dividends, although of course there are no guarantees this will continue.

The group is generally performing well, with organic growth in most areas. But there are weak spots.

'Remote & Offshore' supplies mining and oil companies, sectors that have pulled in their horns in recent years as lower commodity prices hit home. Restructuring the division has helped cut costs, but the division's still not flourishing.

Long term, demand is driven both by economic growth and the ongoing trend toward greater adoption of outsourced catering solutions, which has seen substantial increases in the addressable market.

A broad customer base that ranges from Aston Villa to De Beers in South Africa and Verizon in the US means revenues should prove resilient. The group is also targeting margin gains through its Management and Performance (MAP) plans, which seeks to minimise unit costs.

There aren't many stocks that can match Compass' record of dividend growth, and offer the prospect of additional capital returns. That's reflected in the share price though with the prospective dividend yield at 2.7% and a price to earnings ratio of 18.8. That's well above the long run average of nearer 16.

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Full Year Results

Revenue growth in North America, which accounts for 59.3% of group revenue, hit 9.1%.

That reflects a retention rate of 97% as well as some good new business wins. Sports & Leisure delivered from particularly impressive like-for-like (LFL) growth, while new wins included contract with Lockheed Martin, Nvidia and Honda Canada. Ongoing cost savings, partly offset by labour inflation, meant the region saw operating profits rise 9.2% to £1.1bn.

Europe (24.9% of revenue) saw revenues rise 2.7% to £5.8bn as new business improved across the UK, Spain, Germany, Austria and Switzerland, with contract wins from the likes of ING and Peugeot. However, underlying profits in the region fell 4.4% to £395m as volumes and costs struggled in the UK.

The Rest of World division saw underlying revenues rise 2.6% to £3.7bn (15.8% of group), thanks to good results in Turkey and Spanish speaking Latin America. Operating profits rose 14.5% to £276m, as the region continued to benefit from restructuring undertaken in 2015-16.

Free cash flow rose 17.1% to £1.1bn, supporting a slight reduction in net debt, which now stands at 1.5 times EBITDA (earnings before interest, tax, depreciation and amortisation).

Compass intends to dispose of non-core businesses responsible for 5% of total revenues over the coming years as it realigns its portfolio. Nonetheless management expect 2019 to deliver organic grow of 4-6%.

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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 for more information.