Centrica (LSE: CNA) (NASDAQOTH: CPYYY.US) recently issued a profit warning, along with news that it has signed a £107m deal to sell some of its Canadian gas assets. The firm is also planning to sell three of its biggest gas-powered power stations, which are currently loss-making, in order to raise cash.
Despite this, the owner of British Gas says that it remains committed to ‘real dividend growth’. However, I believe that Centrica shareholders need to question whether the firm’s current payout is affordable and sustainable — I’m not sure that it is.
1. Energy bills down 10%
Centrica says that the average British Gas residential bill was 10% lower this winter than last. This isn’t a surprise, given the mild weather we had, but it does mean that Centrica expects the post-tax profit margin for British Gas to fall to 4%.
This is below the 4.5%-5% level Centrica believes is necessary to fund investment in the business, and is the main reason the firm has cut its earnings per share forecast to between 22-23p, from a previous forecast of around 25p.
2. 280,000 customers lost
280,000: that’s the number of customers who have deserted British Gas so far this year, either by switching energy supplier (180,000) or dumping their British Gas services, such as central heating maintenance contracts (100,000).
British Gas faces an uphill struggle to re-establish its reputation for good value, and the cost of making sure that its energy prices remain competitive could put more pressure on the firm’s profit margins.
3. £420m
Last year, Centrica spent £500m on buybacks and £872m on dividend payments, neither of which were covered by the firm’s free cash flow. This year, it’s already spent £132m as part of a £420m buyback programme.
In my view, these unfunded shareholder returns may soon become unaffordable, and could lead to a dividend cut: an opinion that’s strengthened by today’s news that Centrica is selling cash-generative gas assets and cutting its UK power generating capacity down to the minimum required to meet demand from British Gas customers.
I continue to believe that a dividend cut is likely at Centrica, and rate the shares as no more than a hold — assuming you are happy with the risks.
An alternative to Centrica?
Stock market lore says that profit warnings come in threes, and while I wouldn’t make an investment on that basis, I do believe that there will be worse to come from Centrica.
