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Centrica - disrupted, dividend cancelled

Emilie Stevens, Equity Analyst | 2 April 2020 | A A A
Centrica - disrupted, dividend cancelled

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Centrica plc Ord 6,14/81p

Sell: 54.88 | Buy: 54.92 | Change 0.88 (1.63%)
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Coronavirus is causing Centrica some significant disruption. Business energy demand has fallen, but there are signs working from home is increasing residential usage. The oil price crash has impacted the upstream oil & gas operations and the group's seen further outages at its nuclear power stations.

In light of the disruption, Centrica has cancelled the final dividend of 3.5p per share.

The shares fell 3.5% in early trading.

View the latest Centrica share price and how to deal

Our view

Centrica's uphill battle in the Consumer and Business divisions, while also trying to exit oil & gas and nuclear operations, has been rumbling on for a while. Unfortunately the challenges look set to continue - made worse by the global coronavirus crisis and oil price crash.

The UK's lockdown has reduced Business energy demand, although there are early are signs working from home is increasing residential use to some extent. With both homes and businesses in immediate financial hardship - Centrica is braced for an increase in bad debts and deferred payments.

The timing is far from ideal.

Retail energy supply, through Direct Energy and British Gas, is something Centrica's been doing for a while. It's less capital intensive, so should be more cash generative, but that's a theory the group have struggled with. An energy price cap in the UK also served to cap profits. And thanks to the rise of price comparison websites and smaller challengers, Centrica's found its margins squeezed and customers harder to hold on to.

With both the financial and oil market in disarray, divestment plans have been shelved for now. Centrica will have to deal with the fallout in the Upstream division itself. The oil price crash means Centrica will continue to learn the hard way that the world of upstream oil production is volatile. News of further Nuclear outages just adds to the drama.

The Business division, home to energy trading and business energy supply, struggles to excite too. Returns in the trading business, although up last year, have tended to be turbulent and warmer winters have meant there's no need for the heating to be on max.

Until there's more clarity on how long the lock down and emergency pandemic measures will last, the impact on earnings is somewhat unknown.

That's why for now cash remains the key challenge. The group's put in a place a host of measures, including cancelling the final dividend, which will help, but whether they are enough remain to be seen. Centrica has £0.6bn in cash and access to a further £2.7bn if needed, that's encouraging to hear - especially with no divestment proceeds any time soon. As at 31 December, net debt was 1.5 times cash profits.

With coronavirus forcing many industries into zero or near zero revenue scenarios, its true Centrica's retail energy earnings (which make up just over half of profits) look somewhat resilient in comparison. But in our minds, Centrica entered the pandemic with problems and we can't see it coming out with any less. If you're after utility like revenues, we'd suggest other sectors such as the water utilities, could serve you better. Until Centrica's outlook becomes clearer we'd err on the side of caution.

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Coronavirus update

Despite increased demand from residential customers, as more people work from home, Centrica is seeing a more significant decline in business energy demand - driven by temporary closures. The group expects customer bad debts to increase, as will deferred payments, as certain residential and business customers see incomes fall.

In line with government guidance, Centrica have stopped all non-essential customer visits. That's expected to impact revenue from services and solutions activities, for both homes and businesses.

The overall impact of reduced demand and weaker economic conditions remains unclear and as a result Centrica has withdrawn group cash flow guidance for 2020.

In the Upstream division, the recent oil price decline is expected to reduce Exploration & Production (E&P) underlying cash flows by £100m. The group has seen further outages at the Dungeness B and Hinkley Point B nuclear power stations too. Centrica has taken a number of cost saving measures, including reducing cash capital expenditure in E&P by £100m. As a result, the Upstream division is still expected to be cash flow neutral this year.

Centrica still plans to exit both E&P and Nuclear, but divestment programmes have been paused until the financial and commodity markets have settled.

The group is taking a number of cash saving measures. These include reducing non-essential operating costs, deferring the decision to pay employee cash bonuses relating to 2019, implementing a pay freeze for most non-customer facing colleagues, and delaying over £100m of restructuring spend. Centrica's executive directors will not receive bonuses relating to 2019. Cancelling the yearend dividend is expected to save £204m.

All new non-essential, customer facing capital expenditure has been stopped or delayed, which Centric expects will save around £100m in cash. This means total group capital expenditure this year is expected to be around £600m rather than £800m as previously guided.

At the end of March Centrica had £0.6bn in cash and £2.7bn of undrawn credit facilities. There are no material covenants (borrowing restrictions) on any of Centrica's existing debt.

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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.