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Is Dignity plc a falling knife to catch after crashing 15%?

William Murphy. Licence: https://creativecommons.org/licenses/by-sa/2.0/

Shares in funeral services provider, Dignity (LSE: DTY) sank over 15% today as the company announced full year results to the market. Given that some of the most profitable investments are often those companies that offer services we can’t do without (and perhaps would prefer not to discuss), does today’s fall represent a golden opportunity for prospective shareholders to grab a slice of the company? Let’s take a look at the numbers.

Dead and buried?

At first glance, things really don’t look bad at all. Thanks to the number of deaths in 2016 being comparable to the year before (which were already significantly higher than normal), revenue at the £1.4bn cap grew 3% to £313.6m, with profits before tax rising by the same percentage to £71.2m.

For the company, this represented a better financial performance than expected. With 30,000 new sales of pre-arranged funeral plans, continuing excellent feedback from clients, 21 acquisitions purchased using existing cash resources and a 10% hike to the final dividend, the picture seems anything but gloomy.

So, what gives? Today’s fall is most probably down to the company’s cautious outlook for 2017. According to Dignity, historical data suggests that the number of deaths this year could be “significantly lower than in 2015 and 2016“. There’s also the indication of increased competition in the unregulated markets in which it operates, prompting Dignity to trim its underlying earnings per share growth rate for the medium term by 2% to 8% per annum. Given this, it’s perhaps understandable that many investors decided to jettison the company from their portfolios, at least for a while.

Personally, I think today’s negative reaction is overdone. The fact that the company is seeing increased competition is not necessarily a bad thing so long as it takes the necessary steps to defend its existing market share. As such, the company’s intention to invest in digital technologies to attract further business should be viewed positively. Moreover, the firm’s push for new regulation to ensure that grieving families receive minimum standards of care from all operators could — if successful — help to reduce the likelihood of more competitors entering the market.

Trading on 22 times forward earnings, shares certainly weren’t cheap before today’s results. However, its desire to continue building market share in what remains a fragmented industry coupled with its relatively price inelastic services convinces me that Dignity’s investment case remains solid.

A high growth alternative

If Dignity’s outlook causes you concern however, perhaps recent FTSE 100 entrant Rentokil Initial (LSE: RTO) may be a viable alternative. Over the last five years, the Camberley-based pest control company’s shares have performed superbly, rising 189% to 240p. For comparison, the index of which it is now a part has gained just 24% over the same period. Based on recent results, I think there could be more upside to come.

Back in February, the business reported a strong overall performance in 2016 with ongoing revenue and operating profit growth of 12.6% and 11.5% respectively. In addition to both numbers being in excess of the company’s stated financial targets, Rentokil also made a staggering 41 acquisitions and grew levels of free cash flow to £156m.  

All this, when combined with a rapidly rising dividend and December’s announcement that the company would — in conjunction with Haniel create “a leading supplier of workwear and hygiene services in Europe” makes me thoroughly bullish on the shares.

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Paul Summers has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.