Global commodity crisis offsetting progress

Shanks Group 5 February 2016 Update

Shanks Group

Global commodity crisis offsetting progress

Trading statement

Industrial support services

5 February 2016

Price

78.3p

Market cap

£312m

€1.35/£

Net debt (£m) at 31 December 2015

201

Shares in issue

398.1m

Free float

100%

Code

SKS

Primary exchange

LSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

(20.4)

(20.4)

(22.1)

Rel (local)

(17.2)

(13.7)

(11.6)

52-week high/low

112.5p

78.3p

Business description

Shanks is a leading international waste-to-product company. Its focus is on sorting and processing waste, rather than landfill and incineration, to produce reusable end-products. The business operates in three divisions: Commercial, Hazardous and Municipal.

Next event

Final results

May 2016

Analysts

Neil Basten

+44 (0)20 3077 5700

Roger Johnston

+44 (0)20 3077 5722

Shanks Group is a research client of Edison Investment Research Limited

The trading statement on 3 February highlighted further progress in the Commercial division. However, this was offset by impacts from the global commodity crisis, leaving results likely to be slightly below expectations, and we are lowering our 2016 EPS forecasts by 7%. With the disposal of the Wakefield assets the first stage in value realisation from the PFI portfolio and the shares drifting below our valuation range (unchanged at 106-130p/share), a yield over 4% should provide support before more tangible evidence from the cost management programmes shows in results.

Year end

Revenue
(£m)

PBT*
(£m)

EPS*
(p)

DPS
(p)

P/E
(x)

Yield
(%)

03/14

636.4

30.2

5.7

3.45

13.7

4.4

03/15

601.5

21.7

5.0

3.45

15.7

4.4

03/16e

593.1

21.2

4.2

3.45

18.6

4.4

03/17e

607.6

25.5

5.0

3.45

15.7

4.4

Note: *PBT and EPS are normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments.

Netherlands Commercial progress encouraging

Continuing the trend seen at the interim stage, Netherlands was again the star performer, with the self-help initiatives more than offsetting lower recyclate prices. However, the ongoing global commodity crisis had a number of direct and indirect impacts on the Hazardous Waste and Municipal divisions. Shanks has been affected in three main areas: lower waste oil prices, lower electricity generation receipts and lower recyclate prices as it sells by-products from recycling back into the market. While the recent volatility in commodity prices is outside its control, it again demonstrates the clear need for self-help programmes, leaving Shanks a more resilient business and better placed to benefit from an economic recovery.

Wakefield PFI asset disposal demonstrating value

With group debt levels around £200m, management had indicated previously that disposal of either single or portfolios of PFI assets was likely in the medium term. The £30m cash proceeds from the sale of Wakefield debt and equity releases value, while retaining a 49% interest and a 25-year operating contract. The PFI portfolio was previously valued at £115m and further divestments are likely to give more financial flexibility and redeploy capital to accelerate other growth opportunities.

Valuation: Self-help recovery generally intact

Despite the global commodity crisis taking the gloss off 2016 results (we are trimming our 2016/17 earnings estimates), we are generally encouraged by the progress of the underlying business. With the major investment in the Municipal division nearing completion (Derby and Surrey, Canada to complete in 2016/17e), we remain confident of a recovery in profits and returns underpinned by the ongoing cost management initiatives. The recent share price weakness caused by nervousness over commodity and recyclate prices leaves the shares at a discount to our valuation range (currently unchanged at 106-130p/share) and supported by a yield of over 4%.

Trading statement – February 2016

A strong performance from the Commercial division has not fully compensated for the more challenging conditions caused by the global commodity crisis and affecting the hazardous waste and municipal markets. Results for FY16 are therefore likely to be slightly below our expectations and those of the market, although the group remains well positioned to show strong growth helped by new capacity, margin improvement and cost management initiatives.

Divisional commentary

Commercial Waste

Driven by self-help initiatives, the Commercial division has continued to deliver strong profits growth. Helped by stronger construction volumes in the Netherlands and good cost control, this has been the main driver, although the turnaround here is gaining traction after recent actions in Belgium.

Hazardous Waste

With c 50% of its revenues exposed to oil and gas, strong performance by the soil and ship treatment businesses were not sufficient to fully offset the impact of lower oil prices on both industrial sludge volumes and industrial cleaning. Despite these short-term issues, the division has continued to invest in new capacity and is still expected to show growth in the current year.

Municipal

The impact of lower recyclate pricing and weaker offtake markets has affected all recyclers, including the Municipal division. New capacity is now in service at BDR and Wakefield. However, despite the continuous improvement programmes, the division has not been able to fully compensate for the market headwinds and is expected to show a modest decline in profits. With Derby and Surrey (Canada) nearing completion, management remains confident that the long-term business model remains robust and is expected to deliver strong profits and cash generation.

Financials

Core net debt was in line with our forecast at £201m at 31 December 2015, with the major investment programmes near completion. Following the disposal of the Wakefield PFI assets for a gross consideration of £30m, year-end net debt is now expected to be approximately £196m. The board reiterated that the transaction is consistent with the strategy of actively managing the portfolio of assets. It provides flexibility and enhances the group’s ability to redeploy capital for accretive acquisitions or investments, where accelerated growth and returns can be delivered. As such, further disposals are possible, including the PFI portfolio as a whole or packages of individual debt/equity.

Revised forecasts

Following February’s trading statement, we have revised our forecasts to reflect management comments and the impact of the global commodity crisis on the group. Performance in the Commercial division remains robust, but we have modestly reduced assumptions for Hazardous Waste and Municipal to reflect the impact of lower oil and recyclate prices. Comments for the next year remain encouraging, as the company expects a robust performance to more fully reflect the benefit from the ongoing self-help actions and new capacity coming on stream. The main change is the removal of the partial profit contribution of £1.5m following the Wakefield PFI asset disposal.

Exhibit 1: Updated PBT and earnings estimates

EPS (p)

Clean PBT (£m)

Old

New

Change (%)

Old

New

Change (%)

2016e

4.5

4.2

(7)

22.7

21.2

(7)

2017e

5.3

5.0

(6)

27.0

25.5

(6)

Source: Edison Investment Research

Exhibit 2: Shanks divisional breakdown and revised 2016/17 forecasts (£m)

H115

H215

FY15

H116

H216e

FY16e

FY17e

Revenue

Commercial

159.2

154.9

314.1

145.5

152.4

297.9

306.8

Hazardous Waste

69.2

68.8

138

64.4

66.1

130.5

132.5

Municipal

81

76.7

157.7

90.2

82.9

173.1

176.7

Intra segment revenue

-4.6

-3.8

-8.4

-3.1

-5.4

-8.5

-8.4

Total revenue

304.8

296.6

601.5

297

296.1

593.1

607.6

Trading profit

Commercial

7.2

6

13.2

8.1

7.9

16.0

17.5

Hazardous Waste

8

8.4

16.4

7.3

7.7

15.0

17.1

Municipal

5.7

6.4

12.1

5.2

5.7

10.9

12.7

Intra segment revenue

-2.8

-4.6

-7.4

-3.2

-4.1

-7.3

-7.4

Total Trading profit

18.1

16.2

34.3

17.4

17.2

34.6

39.9

Interest

-7.2

-6.2

-13.4

-7.1

-7.4

-14.5

-15.4

Associate

0.3

0.5

0.8

0.4

0.6

1.0

1.0

Profit Before Tax

11.2

10.5

21.7

10.7

10.5

21.2

25.5

Source: Edison Investment Research

Valuation: Currently unchanged at 106-130p/share

Shanks faces a number of short-term challenges caused mainly by the global commodity crisis. We are encouraged by the relatively robust performance and evidence that the continuing self-help initiatives are building further resilience into the group. As a period of major investment and new capacity comes on stream, we are hopeful that the next few years will herald a period of improving margins and returns for the group. Driven by continuing improvement in the Commercial division and a contribution from new capacity in the Hazardous and Municipal divisions, our underlying forecasts for 2017 remain largely unchanged. At this stage, we are maintaining our valuation range of 106-130p per share, which suggests healthy upside from current levels if Shanks demonstrates further progress and builds confidence in its self-help plans to deliver improving returns to shareholders.


Exhibit 3: Financial summary

£m

2014

2015

2016e

2017e

Year-end 31 March

IFRS

IFRS

IFRS

IFRS

PROFIT & LOSS

Revenue

 

 

636.4

601.5

593.1

607.6

Cost of Sales

(530.6)

(506.2)

(495.9)

(503.6)

Gross Profit

105.8

95.3

97.2

104.0

EBITDA

 

 

88.7

72.6

74.6

82.1

Operating Profit (before amort. and except.)

48.7

36.8

37.4

42.7

Intangible Amortisation

(2.8)

(2.5)

(2.8)

(2.8)

Exceptionals

0.0

0.0

0.0

0.0

Other

0.0

0.0

0.0

0.0

Operating Profit

45.9

34.3

34.6

39.9

Net Interest

(16.0)

(13.4)

(14.4)

(15.4)

Associated company

0.3

0.8

1.0

1.0

Exceptionals

(52.5)

(40.9)

(20.0)

0.0

Profit Before Tax (norm)

 

 

30.2

21.7

21.2

25.5

Profit Before Tax (IFRS)

 

 

(22.3)

(19.2)

1.2

25.5

Tax

(5.9)

2.3

(4.6)

(5.5)

Profit After Tax (norm)

27.1

26.5

19.4

22.8

Profit After Tax (FRS 3)

(28.2)

(16.9)

(3.4)

20.0

Average Number of Shares Outstanding (m)

397.6

397.8

397.8

397.8

EPS - normalised (p)

 

 

5.7

5.0

4.2

5.0

EPS - (IFRS) (p)

 

 

(7.1)

(4.3)

(0.9)

5.0

Dividend per share (p)

3.45

3.45

3.45

3.45

Gross Margin (%)

16.6

15.8

16.4

17.1

EBITDA Margin (%)

13.9

12.1

12.6

13.5

Operating Margin (before GW and except.) (%)

7.7

6.1

6.3

7.0

BALANCE SHEET

Fixed Assets

 

 

741.3

745.0

780.0

803.5

Intangible Assets

212.7

173.8

171.0

168.2

Tangible Assets

327.1

282.9

291.4

297.8

PFI/PPP financial assets

195.6

278.2

306.6

325.4

Investments

5.9

10.1

11.1

12.1

Current Assets

 

 

261.0

194.6

192.7

196.0

Stocks

9.4

6.9

6.8

7.0

Debtors

147.0

126.9

125.1

128.2

Cash

104.6

60.8

60.8

60.8

Other

0.0

0.0

0.0

0.0

Current Liabilities

 

 

(276.8)

(400.2)

(439.6)

(442.2)

Creditors

(271.4)

(262.9)

(261.6)

(270.5)

Short term borrowings

(3.7)

(75.0)

(115.6)

(109.3)

Short term PFI debt

(1.7)

(62.3)

(62.3)

(62.3)

Long Term Liabilities

 

 

(452.0)

(350.3)

(361.2)

(379.0)

Long term borrowings

(256.9)

(140.8)

(140.8)

(140.8)

Long term PFI debt

(149.5)

(160.3)

(171.9)

(188.5)

Other long term liabilities

(45.6)

(49.2)

(48.5)

(49.7)

Net Assets

 

 

273.5

189.1

172.0

178.3

CASH FLOW

Operating Cash Flow

 

 

73.2

69.2

52.2

86.2

Net Interest

(18.3)

(13.4)

(16.2)

(17.6)

Tax

(1.6)

(5.7)

(2.3)

(2.8)

Capex

(42.7)

(42.1)

(61.6)

(45.9)

Acquisitions/disposals

22.4

(1.5)

16.0

0.0

Financing

0.2

0.0

0.0

0.0

Dividends

(13.7)

(13.7)

(13.7)

(13.7)

Other

(49.3)

(63.2)

(26.6)

(16.6)

Net Cash Flow

(29.8)

(70.4)

(52.2)

(10.3)

Opening core net debt/(cash)

 

 

177.3

156.0

155.0

195.7

HP finance leases initiated

0.0

0.0

0.0

0.0

Other

51.1

71.4

11.6

16.6

Closing net debt/(cash)

 

 

156.0

155.0

195.7

189.4

Source: Company accounts, Edison Investment Research

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Germany

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New Zealand

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

245 Park Avenue, 39th Floor

10167, New York

US

Sydney +61 (0)2 9258 1161

Level 25, Aurora Place

88 Phillip St, Sydney

NSW 2000, Australia

Wellington +64 (0)48 948 555

Level 15, 171 Featherston St

Wellington 6011

New Zealand

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