This mid-cap company is one to tuck away!
Shareholders in Dignity (LSE: DTY), the UK's only listed funeral services firm, will have been pleased with Monday's unexceptional update.
Dignity is one of those rare companies for which a 'significantly ahead of expectations' announcement would be as much a cause for anxiety as a profit warning. The nature of its business, and its business model, mean that results and trading statements should glide by as serenely as … well, a funeral cortege, for want of a better simile.
The business
Dignity is a FTSE 250 company with a market cap of around £400m. It has three business divisions:
- Funeral services (75% of group revenue): Dignity operates a network of 546 funeral homes trading under local established names. In 2009 it conducted 65,000 funerals, giving it a market share of 12%;
- Cremations (19% of group revenue): Dignity operates 30 crematoria, making it the largest single operator in Britain. In 2009 it performed 42,700 cremations, representing a market share of 8%; and
- Pre-arranged funeral plans (6% of group revenue): Dignity sells pre-arranged funeral plans through affinity partners. These plans represent future incremental business for the funeral division, which expects to perform the majority of the funerals.
Numbers up
Dignity has made solid progress since it was floated in 2004:
| | 2005 | 2006 | 2007 | 2008 | 2009 | 2010
(est) | 2011
(est) |
|---|
| Revenue (£m) | 143.2 | 149.8 | 159.5 | 175.8 | 184.7 | 194.5 | 204.0 |
| Pre-tax profit (£m) | 26.5 | 27.2 | 30.2 | 35.4 | 37.5 | 39.5 | 43.2 |
| Margin | 18.5% | 18.2% | 18.9% | 20.1% | 20.3% | 20.3% | 21.2% |
| Earnings per share | 23.5p | 26.6p | 34.4p | 38.2p | 40.5p | 44.0p | 48.0p |
The attractive growth trajectories of sales, margins and earnings were uninterrupted by the recession, emphasising the non-cyclical nature of the business.
Market and moats
Historically, many undertakers were family-owned businesses and served their neighbourhoods for generation after generation. Today, the vast majority of people still choose a funeral provider on the basis of personal knowledge or local recommendation.
Dignity has not branded itself as an anonymous national chain; each individual funeral home it acquires retains its original name and continues its traditional role as part of the local community.
Dignity provides back office support and capital investment, using its size to strike competitive deals with hearse and limousine manufacturers, masons, florists and other suppliers.
Co-operative Funeralcare is the other big player in the market. The dominance of the Co-op and Dignity, and an otherwise fragmented market of small independent operators, make it extremely difficult for any would-be new entrant with national ambitions to gain an effective foothold.
There are also barriers to entry in Dignity's other two business divisions.
In crematoria, most of which are operated by local authorities, Dignity enjoys early-mover status, both as an outsourcing partner and as a builder of new crematoria.
In pre-arranged funeral plans, Dignity's nationwide funeral home network has enabled it to form alliances with big life assurance and insurance providers. It has a long, and growing, list of affinity partners -- household names such as Legal & General (LSE: LGEN), Asda and Age UK (the recently-merged Age Concern and Help the Aged charities).
A utility-like business
Office of National Statistics forecasts of deaths per annum are fairly reliable, subject only to small, short-term fluctuations caused by sudden heat waves or cold spells. At the same time, because most funerals are paid for out of the estate of the deceased, there is little downward pressure on funeral providers' prices: they tend to keep up with, or outpace, inflation.
Put the above two facts together and you can see that Dignity enjoys long-term volume and earnings visibility. It's much like a utility company -- and like a utility company it leverages its balance sheet with debt to generate optimum shareholder value. In a business with less predictable cash flows the gearing would look pretty scary.
Stability and predictability don't come cheap
You'll never find Dignity in classic value territory: at the current price of 633p it's trading on over 14 times 2010 forecast earnings, falling to around 13 for 2011.
The dividend yield is generally modest, too -- currently not much more than 2% -- making it unappealing for investors looking for an instant high income.
Finally, growth prospects are too dull for out-and-out growth investors.
However, the company is well-liked by institutional shareholders, and if you're satisfied it can go on doing the business year-in-year-out, it looks a great long-term investment to be put in the bottom drawer and forgotten about for a decade or two.
Dividend growth has been a consistent 10% per year, so all the better if you can automatically reinvest dividends, although the company itself doesn't run a Dividend Reinvestment Plan. There are no shareholder perks either!
I don't hold shares in Dignity myself, but the longer its track record gets, the more I'm tempted.
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