With its robust balance sheet and a dividend yielding 5.2%, the bus and rail operator Go-Ahead (GOG) has long been one for the income spotters.
Today, however, the market had cause to revisit this theory after Deutsche Bank questioned whether a projected 102.1p a share dividend worth £44 million a year could be covered by free cash flow alone.
The bank also removed its buy recommendation on Go-Ahead and slashed its price target by 21% to 1840p. Shares slumped 7% as a result, ending a recovery since February after positive first-half figures and a read-across from private equity firm Apollo’s rejected takeover approach for FirstGroup (FGP).
In the absence of future rail franchise wins and with Go-Ahead’s bus businesses seeing the same muted trends as the rest of the industry, Deutsche said it was now less clear that the shares are significantly undervalued.
The bank’s forecasts are based on a projected PE multiple of 11.4x for 2018, rising to 16.1x in 2019.
Source: interactive investor Past performance is not a guide to future performance
Go-Ahead’s recent half-year results revealed a flat operating profit for the bus division, while rail was ahead of expectations with a record operating profit of £40.3 million. This was helped by improved trading at its GTR division, which encompasses Thameslink, Great Northern, Southern and Gatwick Express.
In rail, Deutsche sees a substantial stepping down in profit generation as a result of the known loss of rail franchises. It forecasts rail earnings of £37 million this year, followed by £20 million in FY19 and £10 million in FY20.
However, it added: “Risk is arguably to the upside on our rail forecasts should Go-Ahead secure a franchise win and/or see a successful resolution to its contractual negotiations with the Department for Transport (DoT).”
The rail franchise system was recently the subject of a scathing report by MPs, with the DoT being accused of being too ambitious over what could be achieved by the GTR operation.
Across the group, Deutsche forecasts underlying earnings of £124 million in FY18, falling to £105 million in FY19 and £93 million in FY20. This also reflects bus forecasts struggling to move higher against industry headwinds.
Crucially in terms of the dividend, the bank forecasts that free cash flow will be £22 million in FY18, £48 million in FY19 and £39 million the year after. This is following capital expenditure but before working capital movements, with the company still retaining plenty of balance sheet capacity.
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