British Gas owner Centrica (LSE: CNA) is on track to return to profit this year, but is struggling to stem falling customer numbers at British Gas. Those were the key takeaways from the firm’s first-quarter trading statement, which left its shares down by around 2.5% shortly after markets opened.
Centrica said that British Gas customer numbers fell by 1.5% during the first quarter. That’s more than the 1% fall seen during the whole of 2015. The group says that the sudden drop was due to a large number of long-term contracts ending. New customer offers are planned for the next couple of months, but reversing this decline could be challenging.
Despite these falls, Centrica says its UK business has returned to profit. Indeed, the remainder of the firm’s update was fairly positive. Centrica is on course to make £200m of efficiency savings in 2016, as part of a programme to cut costs by £750m. A total of 3,000 job cuts are expected in 2016, of which 800 have already been made.
Centrica’s financial performance also seems stable. Adjusted operating cash flow is expected to exceed £2bn, which should comfortably cover planned capital expenditure of £1bn. Another positive is that net debt fell by nearly 10% to £4.4bn during the first quarter.
Is Centrica a buy?
The big question for investors is whether this is the right time to buy back into Centrica.
Centrica shares have risen by 26% from February’s 52-week low of 182p and now trade on around 15 times forecast profits for 2016 and 2017. That’s not massively cheap. Falling customer numbers at British Gas are also a concern. We don’t yet know how much profit Centrica will have to sacrifice to reverse this decline.
However, I was encouraged by a couple of other items in today’s update. Centrica flagged up “good operational performance” in its oil and gas production and power generation businesses, which trade as Centrica Energy. Profits at Centrica Energy were crushed by the impact of lower commodity prices last year, falling from £648m to £255m. I believe there’s potential for this unit’s profitability to bounce back faster than expected.
First of all, Centrica should now be starting to benefit from lower operating costs in its oil and gas production divisions. The unprofitable Killingholme gas-fired power station was also closed during the first quarter.
A second factor is that Centrica plans to spend up to £500m on acquisitions in the oil and gas exploration and production sector in 2016. There are an increasing number of opportunities to buy financially-distressed firms with good assets in this sector. Investing wisely now could deliver big gains over the next few years, when the price of oil starts to recover and profits recover.
In the meantime, Centrica shares offer a forecast yield of 5.2%, which should be covered by this year’s earnings. This is high enough to make the shares worth holding, in my view, if you believe that Centrica’s profits will soon start to recover.
I believe that now could be a good time to start building a position in Centrica, with a view to buying more if the outlook continues to improve later this year.
