If ever a business justified private equity’s reputation for flogging threadbare companies to the stock market, it is the AA. CVC, Permira and Charterhouse listed the roadside assistance company in 2014, breaking up the holding vehicle Acromas.
The AA was hobbled from the start. The buyout barons, which bought it from British Gas owner Centrica, extracted hefty dividends and loaded it with £3.3bn of debt before taking it to market.
After a brief honeymoon, the shares started to drop in mid-2015 — and it has been downhill ever since. They ended last week at 46p, valuing it at just £277m. Neil Woodford was among investors who bought into the disastrous float.
The AA has been battered by a series of problems. Pugnacious executive chairman Bob Mackenzie was ousted in 2017 after a brawl with a colleague. A profit warning last year bruised investors further.
Membership has dwindled from 4m in 2014 to 3.19m last month. Earlier this month, the Financial Conduct Authority dealt another blow, warning that it may penalise insurers that capitalise on customers’ loyalty or inertia by charging them higher prices.
Boss Simon Breakwell has been grappling with all this since his appointment two years ago. He inherited a debt pile on wheels. Debt remains stubbornly high at £2.7bn, with a net debt-to-core profits ratio of 7.8 times. The AA paid £127m in interest costs last year, and a further £24m to reduce the deficit in its £2.4bn pension scheme.
Breakwell, a tech veteran who established the European operations of the Silicon Valley ride-hailing giant Uber, has been trying to turn around the company by focusing on innovations such as smart devices that predict customers’ breakdowns before they happen.
Last year he bought time by refinancing some debt to 2022. Cutting the dividend gave him more room to invest in technology, and he has signed deals such as a tie-up with his old company Uber.
But none of this fixes the underlying problem: the AA’s finances are not sustainable in the long term. When the time comes to refinance that mountain of debt, it will face crippling fees and — in all likelihood — more punitive interest rates. A rights issue at this share price is not viable, and selling assets such as its growing insurance business is a road to oblivion. It may be generating cash, but at this rate it would take decades to clear that pile.
That leaves either a sale or a messy restructuring, probably involving a debt-for-equity swap. Until someone comes up with an answer, the AA is too big a risk. Avoid.
