The spectre of renationalisation has loomed over private and listed entities within the transport sector for several years, but Labour’s election victory last July truly spelled the end of privately operated train services, leaving quoted ticketing company Trainline and public transport provider FirstGroup looking vulnerable.
Trainline is threatened by the government’s plan to launch its own ticket booking service, while FirstGroup, the last remaining quoted train company, will see its train operating companies (TOCs) eventually transferred to new state rail company Great British Railways when their current contracts expire. Its South Western Railway franchise has already been plucked from its control.
Other rail franchises were brought back under state ownership by the previous Conservative government, so the end of privatised railways has been a long time coming. Yet it’s very far from the end of the line for either Trainline or FirstGroup. For a start, FirstGroup already runs successful fully commercial rail services — these receive no support from taxpayers and are healthily profitable — and it intends to expand this division. It’s also one of the biggest bus operators in the country and has strengthened its presence in bus franchises with an acquisition giving it a 12 per cent share of the London market.
And for all the stability of the income they bring, the TOCs’ government-awarded contracts have consistently yielded low profit margins. Pensions were another point of contention. Formerly listed Stagecoach backed out of running trains in frustration at what it described as unquantifiable liabilities being passed on to operators.
As for Trainline, although the impending arrival of a state-owned rival is testing its share price, this rival might not materialise for some time, nor is it guaranteed to steal this quality operator’s substantial share of the market. Trainline is also building a presence in Europe.
BUY: FirstGroup (FGP)
The transport giant has extended its buyback and raised its dividend, writes Valeria Martinez.
FirstGroup is giving shareholders more to cheer about with a fresh £50mn buyback and a dividend rise, after the FTSE 250 bus and train operator defied cost pressures and looming franchise renationalisation plans under the Labour government to post a big jump in full-year profits.
The group’s UK bus and rail divisions outperformed analysts’ estimates, with group adjusted operating profit up from £204mn a year earlier to £223mn. Adjusted revenue rose 7 per cent to £1.4bn, boosted by First Bus, higher variable fees from Department for Transport rail contracts and growth in its open-access rail operations.
First Bus hit its margin target of 10 per cent in the second half and 8.9 per cent for the full year, excluding London, helped by higher driver numbers, cost efficiencies, acquisitions and its newer electric fleet. That was despite inflation, particularly from higher wages, and lower government funding.
The company entered the London bus market by buying RATP’s operations for £90mn in February. It has set aside £38mn to cover lossmaking contracts, but is forecasting £300mn-£350mn in annual revenue and margins of 6-7 per cent over the next five years.
In rail, open-access services, where FirstGroup runs trains without government contracts, are a growing focus, as they offer better margins and rely less on policy decisions. Track access has already been secured for new services from London to Stirling and Carmarthen, with other applications in the pipeline expected to triple capacity.
This comes as the Department for Transport starts winding down rail franchises. South Western Railway (SWR) was recently renationalised, and Great Western Railway and Avanti West Coast are set to follow in the years ahead. Given the limited lifespan of these contracts, high bidding costs and low renewal rates, the shift to open-access makes a lot of strategic sense.
FirstGroup expects slightly lower earnings in the rail division next year due to the SWR handover and upfront costs in relation to new open-access routes. Nonetheless, the balance sheet looks to be in shape. Net debt including leases and restricted cash fell to £975mn at the end of the year, despite a series of buybacks, ongoing investment in electrification and M&A activity.
The valuation of 10.4 times forward consensus earnings compiled by FactSet remains undemanding, especially given that the quality of earnings is improving as FirstGroup leans into more durable revenue streams. The rising payout and ongoing buybacks are another vote of confidence.
HOLD: Tatton Asset Management (TAM)
The model portfolio provider enjoys another year of inflows against a shaky economic backdrop, writes Julian Hofmann.
Tatton Asset Management has proved itself to be almost uniquely resilient in the asset management world, with its combination of white-label portfolio services and tight relationships with independent financial advisers providing a steady flow of net funds to its platform at a time when the industry generally has struggled.
These results were no exception to its recent performance and net inflows totalled £3.7bn, which meant that assets under management (AUM) was up by 24 per cent to £21.8bn, with the inflows spread evenly across both halves of the year.
The close relationship between asset flows and the operating performance meant that this translated directly to the income statement, and adjusted operating profits were 28 per cent higher at £24.9mn. Underlying operating costs were 10 per cent higher at £22.4mn, with inflationary pressures accounting for about half of that increase.
The rate of increase in assets was promising as the company has a target of reaching £30bn by 2029, for which it needs a compound annual growth rate in AUM of 11.3 per cent. On this form, that looks achievable, despite the loss of a £2.9bn mandate from Perspective Financial Group, which will hit in 2027. However, management reckons that not all funds associated with PFG will be lost.
Broker Peel Hunt reckons that Tatton’s current price/earnings rating of 21 is consistent with the platform valuations at the high end of the range. Peel Hunt said that the inflows at the start of the new year of £265mn per month looked “solid”.
We agree with that assessment, but would say that outperformance is now expected of the company and its current prospects look well priced in.
HOLD: Fuller, Smith & Turner (FSTA)
Gains on sales outweigh writedowns and provide cash to reinvest, writes Michael Fahy.
Fuller, Smith & Turner’s chief executive, Simon Emeny, attributed the company’s strong results to the repositioning of the estate that the company has undertaken over the past couple of years.
The £20mn sale of the Mad Hatter hotel in Southwark and the disposal of 37 non-core pubs to Admiral Taverns for £18.3mn brought in cash that it has reinvested in the purchase of the Lovely Pubs estate of seven large country pubs and the White Swan in Twickenham.
Even after booking around £10mn of impairments on 26 properties, the net effect of its dealings was a £6.8mn profit, which slightly flatters the reported pre-tax figure.
Stripping this out, adjusted pre-tax profit still rose by 32 per cent — well ahead of the like-for-like sales increase of 5.2 per cent.
It was able to achieve this by keeping costs in check and renegotiating some contracts as they fell due for renewal, while some of the cash from disposals allowed it to pay down debt and refinance at a more competitive rate.
The significantly higher profit and the effect of share buybacks meant earnings per share jumped by 40 per cent to 34.2p, which was ahead of expectations.
Panmure Liberum analyst Anna Barnfather said that with buybacks still under way and borrowing costs falling, there is scope for “low- to mid-single-digit upgrades” to her EPS forecast for this year of 35.05p.
Fuller’s shares trade at a multiple of 19 times forecast earnings — a chunky premium to the sector-wide average of about 13 times. Its performance means that this is deserved, but it’s hard to make the case for a re-rating from this level.
