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Compass Group - coronavirus closures hit first half

Emilie Stevens, Equity Analyst | 19 May 2020 | A A A
Compass Group - coronavirus closures hit first half

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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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First half organic revenue rose 1.6% to £12.6bn, as growth in the first 5 months of the year was offset by declines of 20.4% in March. Sales in April, after the end of the half, fell 46.1% as coronavirus lead to over half of Compass' businesses being closed.

Underlying operating profits fell 11.7% to £838m, as the effect of coronavirus in March offset margin gains throughout the rest of the half.

Compass announced plans to raise an additional £2bn in capital from a share placing. The group will not pay a dividend this year and have withdrawn all previous guidance.

The shares fell 2.9% 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 "has changed everything". Around half of the business is closed due to lockdowns and open sites are operating under strict social distancing rules. Despite positive signs of reopening in Asia, the second half of the year looks less than rosy.

Fortunately Compass has a broad global 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 while revenue declines have been significant, they've been very slightly better than feared.

Nonetheless if April's trends continue sales may still 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 £500m, 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.

Which means both Compass and investors will be looking to the balance sheet for resilience.

Compass went into the crisis in relatively good shape, net debt was £4.9bn at the end of March, around 2 times cash profits. As it stands this isn't an unmanageable level nor is Compass' access to significant liquidity really contingent keeping debts down. However, with earnings likely to fall dramatically this year, debt could quickly become unmanageable and finding extra debt funding a challenge.

Cue Compass' share placing. The group's strengthening its balance sheet with a £2.0bn raise from shareholders. This means current shareholders will likely end up with a smaller piece of the profit pie as well as seeing the dividend cancelled this year. That's pretty big news as until now the group had increased the pay out every year since 2001.

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. While the scale of current challenges shouldn't be underplayed we don't think the crisis will prove existential for Compass.

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First Half Results

In North America, which makes up two thirds of group sales, revenues rose 3.9% to £8.1bn. That reflects "excellent growth across all sectors" until March, when coronavirus saw half the business closed and revenues dropped 19% as a result. Operating profits fell 3.9% in the period to £645m.

Europe, which makes up 24.3% of group revenues, saw revenues dip 0.5% £3.1bn. Prior to the outbreak of coronavirus the region was growing at 0.8%, at the top end of the 0 - 1.0% guidance range, with strong growth in Turkey and Central Eastern Europe. However, coronavirus saw more than half of business in the region close and revenue dropped 30% in March. Countries with large Business & Industry sectors, like Italy, Spain, France and Germany suffered the most. Operating profits declined 27.9% to £148m.

Rest of World revenue fell 6.2% to £1.5bn, with around a third of the region closed in March, offsetting earlier growth in Latin American and Asia Pacific. Operating profits declined 15.5% to £87m.

Compass has reduced costs by around £500m per month through a range of actions including furloughing employees and salary reductions.

Lower profits saw free cash generated in the period drop significantly to £186m down from £530m last year. Net debt at the end of the half was £4.9bn, 2 times cash profits. The group aims to reduce this to 1-1.5 times.

Compass has taken a number of measures to improve financial resilience. These include reducing capital expenditure, pausing acquisition activity and not paying a dividend this year. Where it can it has applied for government support - including £600m from the UK's Covid Corporate Financing Facility.

Compass increased its credit facility by £0.8bn to £2.8bn. The group plans to raise an additional £2bn in capital through an equity placing which will be open to both institutional and retail investors. Retail investors will able to participate through the PrimaryBid platform from 19th May and this will close at the same time as the institutional process.

Find out more about Compass Group shares including how to invest

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