The Market Smells A Rat...
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When the stock price of a one-time growth company takes a bath, there's normally a good reason.
And Rentokil Initial
(LSE: RTO)
, the world's largest pest-control company, has just created a bit of a stink, as well as disposing of chairman Brian McGowan.
The shares had already been taken to the cleaners, slumping from 170p in early November 2007 to 105p last night. But today's news has inflicted further damage. Earnings from continuing operations have slipped and there's a profit warning too.
But the problem wasn't in pest control. That actually performed OK. It was the company's City Link courier operation that failed to deliver the goods, with business levels in the first few weeks of 2008 being so "poor" that the division made a loss in January.
Although action is being taken to reverse the "unacceptable" slide at City Link, according to the group, 2008 earnings will be "significantly" lower than 2007 and heavily dependent on the courier's current year performance. City Link's profitability for 2008 is currently "unclear" but Rentokil warned that it may do no better than break-even.
Certainly the shares were well down today, losing a quarter of their already diminished value on the announcement.
Perhaps it shouldn't have been quite such a shock. After all, this was the second profit warning in the last two months. When Rentokil disclosed problems at City Link in December, it blamed weak consumer spending in the run-up to Christmas.
But it now appears that the cracks ran deeper.
Integration of new acquisitions within the courier business was badly handled as extra costs were incurred and customers drifted away. A new management team is now in place at the division, which following the purchase of Target Express in November 2006 made Rentokil the second biggest player in Britain's £2.8bn parcel delivery services market.
With its hands currently full with City Link, the company has opted to stay away from the acquisition trail for the moment.
Overall revenues actually rose 20% to £2.2bn, but pretax profits from continuing operations slipped 14% to £142m and earnings per share slid 16% to 6.06p. There was some consolation that the other businesses did alright, particularly in ‘Facilities' (ranging from building services to security) and in Asia/Pacific.
The final dividend was maintained at 5.25p per share, giving an unchanged full year payout of 7.38p per share.
Where now for the country's leading rat catcher?
Today's news will have analysts rushing to sharpen their downgrade pencils. Even if the company manages to avoid any further slip-ups in the current year, the 2008 price to earnings ratio climbs to almost 20 times putative net profits of 4p/share.
The yield is now approaching 10%, although there must be a question mark over whether a dividend no longer covered by earnings will be maintained in 2008.
Rentokil basically has a good business. But recent events have inflicted serious reputational damage on the management, which only a sustained profitability turnaround will reverse. Or else, those longstanding break-up rumours will inevitably resurface.
Though a potential purchaser, before buying I'd need to see clear evidence that Rentokil has really cleaned up its act.
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