Centrica plc (CNA) Ord 6,14/81p
HL comment (30 July 2019)
Another challenging half has seen Centrica report a £446m operating loss. While that was down to exceptional costs and charges incurred during the period, adjusted profits were still down 49% to £399m.
Combined with required extra pension contributions and one-off charges, the group has decided to rebase the dividend to 5p per share from 12p per share last year. The interim payment is 1.5p.
The group also confirmed its intention to exit oil & gas production, while CEO Iain Conn has announced he'll be stepping down in 2020.
The shares initially fell 8.5% on the news.
A dividend cut isn't in itself a surprise, but the magnitude of the rebasing and the stated future policy still caught the market unawares.
Most had expected a cut to around 6p per share, but extra squeezes on the pension deficit and even weaker than expected profits mean the payout looks to total 5p this year. And with Centrica tying future increases to both cash flow and profits, one could be forgiven for wondering how much room for growth there is in future.
That's because there's a series of headwinds buffeting the Consumer and Business divisions, which will soon become the be-all-end all as the group exits nuclear and E&P.
In theory the shift makes sense. At the time of the last oil price crash Centrica found out the hard way that the world of upstream oil production can be volatile. Retail energy supply doesn't require much fixed investment, so is highly cash generative. Through Direct Energy and British Gas the group has a wide customer base in the US and the UK, and there are opportunities for efficiency savings and cross-selling (such as the Hive smart products).
Unfortunately theory and practice are two different things.
Returns have been squeezed by weaker returns in the trading business, and it wasn't cold enough this winter for the heating to be on max. There are longer-term problems too. The rise of price comparison sites and smaller challengers mean customer outflows continue, and a price cap has also served to cap profits. As a result, UK consumer margins are now under 2.5%.
There are some rays of light though. Centrica still offers an above market yield even after halving the payout, with a prospective yield of around 6%. Debt reduction remains on track, and plans to shave £1bn off the cost base by 2022 aren't to be sniffed at.
However, the group has to stabilise customer losses in its energy supply business, and the new CEO will need to prove profitability can be rebuilt. We think it's difficult to turn positive on the premise things might get better, instead, we need to see tangible signs of progress.
Half year results
Conditions have been extremely challenging for Centrica this half. Headwinds included the implementation of the UK energy price cap, warmer than normal weather in the UK and North America, a 7% drop in Exploration & Production (E&P) production, a weak natural gas price and further outages at non-operated nuclear power stations.
Adjusted operating profits fell 44% to £240m in Consumer, by 89% to £11m in Centrica Business. Within E&P, adjusted operating profit was down 42% to £148m.
Total energy supply customer numbers fell 2% to 23.6m. Business energy supply customers were also down 2% to 1.2m.
The group's net debt position rose £490m to £3.4bn. While £394m of that was due to accounting rule changes, there was an underlying increase due to a 32% fall in adjusted operating cash flow, to £744m, being only partially offset by a 28% fall in capital expenditure, to £355m.
The impact of the triennial pension review has been to increase the expected contributions. Centrica will now pay £223m in 2019, and then £175m per annum until the deficit is cleared. That's compared to the previous plan of paying £98m until 2022 and lower amounts thereafter.
Looking forward, the group still expects to hit 2019 targets, although adjusted operating cash flow is now expected to be in the lower half of the £1.8-£2.0bn range. Year-end net debt is set to be in the £3.0-£3.5bn range.
The group is targeting £1bn of annualised efficiencies over 2019-2022, up £250m compared to the previous target. Centrica expects this restructuring plan to cost around £1.25bn.
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