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Compass Group - COVID-19 hits half year profits

Emilie Stevens, Equity Analyst | 23 April 2020 | A A A
Compass Group - COVID-19 hits half year profits

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Compass Group plc Ordinary 11.05p

Sell: 1,180.00 | Buy: 1,182.00 | Change -95.50 (-7.46%)
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Compass's half year results are in line with the group's expectations set out on 17 March. Organic revenues grew c.1.6% over the first half, but with just over half of the business closed due to lockdown, operating profits will be around 28-29% lower than expected.

The board won't be recommending an interim or final dividend for this financial year.

The shares remained broadly flat following the announcement.

View the latest Compass share price and how to deal

Our View

In normal times, contract catering is attractive. Since Compass typically uses equipment and facilities owned by the client, capital requirements are low and returns are strong.

But we're not in normal times. Coronavirus is having a significant impact, with more than half of the business closed due to lockdowns, and the second half of the year looks less than rosy.

Fortunately Compass has a broad customer base that ranges from the Ministry of Defence to luxury watchmaker Patek Philippe. Healthcare and Military businesses are at the forefront of the pandemic, so will keep some money coming in.

Nonetheless sales could halve next quarter and that's likely to hit profits hard. How hard depends on how long the disruption lasts and the cost savings Compass can find.

So far it's managed to reduce its monthly costs by £450m, a sizeable chunk of £1.9bn or so monthly costs. Some input costs, like stock and temporary staff, should be reasonably easy to tweak, but other costs are less flexible. Both Compass and investors will be looking to the balance sheet for resilience.

Compass went into the crisis in relatively good shape, on 31 March 2020 net debt was around £4.9bn, around 1.6 - 1.7 times cash profits. However, given the hit to earnings, this will soon rise. Negotiations with lenders to temporarily waive restrictions on borrowing as a multiple of cash profits could come in handy.

Although it won't be welcomed by income investors, not paying a dividend this year will also add to Compass' resilience. Last year dividends to shareholders totalled, £611m. That will put a smudge on what has been an exemplary dividend track record, until this year Compass had increased the pay out every year since 2001. But it's the right call for now.

Over the longer term, we think demand for Compass' services will continue to be driven by both economic growth and the ongoing trend toward greater adoption of outsourced catering solutions, which has seen substantial increases in the addressable market. While the scale of current challenges shouldn't be overlooked we don't they're existential.

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First Half Update

55% of Compass' business is currently closed due to lockdown - the sports division is fully closed, and the Education and Business sectors are operating at around 25% normal activity levels. Compass' Healthcare and Defence divisions, which are supporting pandemic efforts globally, are fully open for business.

Where it can Compass has redeployed employees working in units that have been closed to other sites where critical work is still required such as Healthcare, Education and Defence. Where this hasn't been possible, employees have been furloughed. These measures together with executive pay cuts, mean Compass is managing to reduce its cost base by around £450m per month.

Additional cash saving measures include pausing any acquisition activities and reducing capital expenditure in the second half of the year.

On 31 March 2020 net debt was around £4.9bn, around 1.6 - 1.7 times cash profits.

Total committed credit facilities now stands at £2.8bn and the group has drawn £600m from the Bank of England's Covid Corporate Financing Facility. Compass is also in discussion with its US lenders to waive their covenant tests.

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