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Compass Group - a better Q4 but full year down by 19%

Emilie Stevens, Equity Analyst | 30 September 2020 | A A A
Compass Group - a better Q4 but full year down by 19%

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Compass Group plc Ordinary 11.05p

Sell: 1,930.50 | Buy: 1,931.00 | Change -1.00 (-0.05%)
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Group organic revenue was around 36% lower than last year, an improvement on Q3, thanks to reopening of Businesses and Schools in the US and Europe.

Despite breaking even in the fourth quarter on an underlying basis, Q4 operating margins are expected to be -3% (Q3 -6.3%), reflecting an impairment of around £100m to contract assets.

Full year revenue is expected to be around 19% lower than last year's £25.2bn, with margins around 3%, down from 7.4% last year.

Despite a better quarter, Compass said the speed at which revenue and margins recover is unclear, particularly in light of potential further lockdown measures.

The shares fell 5.6% 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 "changed everything". Lockdowns saw half of the business closed, and while more sites are reopening, they do so under strict social distancing rules.

Higher costs and fewer customers have been putting serious pressure on margins. But thanks to more sites reopening and Compass successfully passing costs on to customers, Compass has broken even on an underlying basis for the first time since the crisis began.

However, whether this is a permanent state depends on a few factors.

The US and Europe are Compass's most important regions but are also the most threatened with further lockdown measures over winter. Whether this happens remains an 'if' but we're encouraged by the progress the group has made to be able to work under stricter conditions. If lockdowns are less severe, allowing schools to stay open and businesses in US to stay in the office, Compass will likely avoid the lows it saw earlier this year, but there are no guarantees.

Compass' broad global customer base, from the Ministry of Defence to luxury watchmaker Patek Philippe, should help too. While Education and Business sectors are most vulnerable to lockdowns, Healthcare and Military businesses - at the forefront of the pandemic - continue to provide a much needed backstop.

While the recovery remains rocky keeping costs down is essential. So far Compass has done a good job at this - reacting quickly at the start of the crisis by knocking a sizeable chunk off monthly costs. But while some input costs, like stock and temporary staff, are proving reasonably easy to tweak, other costs are less flexible.

Which means both Compass and investors continue to look to the balance sheet for resilience.

Compass went into the crisis in relatively good shape and in part thanks to the group's £2.0bn capital raise from shareholders earlier this year, that's roughly still the case. Net debt is higher than we'd like but isn't yet at an unmanageable level nor is Compass' access to significant liquidity really contingent on keeping debts down. Access to £5bn of liquidity provides important breathing room too.

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.

Compass key facts

  • 12m forward Price/Earnings ratio: 27.7
  • Ten year average 12m forward Price/Earnings ratio: 17.8
  • Prospective yield: 1.4%

Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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Pre-Close Trading Update

An improved fourth quarter on an underlying basis was driven by sites reopening, positive contract renegotiations and cost savings. However, this excludes one off resizing costs of £90m in the quarter.

North America, which made up just over 2/3 of 2019 profit, benefited from schools reopening, business client recovery and healthcare remaining strong. The Sports and Leisure business remains closed.

Europe, which now includes the Middle East, saw a notable increase in clients reopening in both Business & Industry and Education. Healthcare continues to perform well but the Sports & Leisure sector remains largely closed.

Rest of World only saw an improvement in the rate of reopening in Asia Pacific education clients.

Fourth quarter capital expenditure was £175m, bringing full year spend to around £720m.

Compass has around £5bn in liquidity, made up of £2.8bn undrawn banking facilities, £600m from the UK CCFF and £1.6bn in cash. At this level Compass is confident it can continue to invest where appropriate.

Find out more about Compass Group shares including how to invest

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. 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.

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