After a challenging few years, things seem to be looking up for Centrica (LSE: CNA) shareholders. The Centrica share price has grown by over half in the past year. It is currently trading around its year highs.
Here is why I think it has been rising and what could happen next.
Gas prices: a mixed bag
With its large footprint in the UK gas market, thanks to owning brands such as British Gas, it might seem that Centrica could be a beneficiary of soaring gas prices. In reality, things are more complicated than that. On the plus side, the bankruptcy of other suppliers has meant hundreds of thousands of customers being switched to Centrica. With its own dismal track record of customer retention, that should be good for the company.
However, Centrica buys as well as sells gas. Gas price volatility could actually end up hurting it, for example in its trading arm. So while the company could turn out to benefit from the spike in energy costs, it is not yet clear whether that will actually be the case.
Back to fundamentals
I think hopes about profit boosts from gas price changes have helped the Centrica share price lately. But I also think that investors have been taking another look at the company fundamentals and questioning whether Centrica really merited its low valuation. After all, while the Centrica share price has soared over the past 12 months, it is still 73% down from where it stood five years ago. In other words, Centrica shares change hands for little more than a quarter of their price in 2016. That’s a dramatic destruction of shareholder value.
While recent performance has not been brilliant – last year’s post-tax loss was £117m, or £432m if only looking at the company’s continuing operations – there have been some grounds for optimism lately. Centrica’s interim results showed free cash flow up slightly and net debt cut dramatically, from £3bn in the prior year period to just £0.1bn. The company turned an operating loss of £338m in the prior year period to an operating profit of just over £1bn. That’s over a quarter of its total market capitalisation. With a stronger balance sheet, higher profits, and better free cash flow, Centrica finally seems to be moving in a positive direction.
Where next for the Centrica share price
The problem, as a Centrica shareholder, is that I have seen the company stumble before even when it has what seems like a good hand of cards.
The current management deserves credit for focussing the company and delivering an improving financial performance. But at the half-year stage, the company was still shedding customers. It reported 150,000 fewer residential customers than in the prior year. Centrica has got into a highly visible dispute with many of its own engineers over working terms. The energy price market volatility could yet hurt profits.
So, while things seem to be going well, I maintain my longstanding concern about Centrica: it struggles to show consistently improving performance over the long term. I will continue to hold my shares for now rather than sell them at a loss, but I won’t be adding any more.
