Trying to anticipate the next move of Patrick Drahi, major shareholder and founder of Altice, the French telecoms group, next month is a task BT could do without. Like all telecoms groups, it’s already being pulled in different directions: investing in the upkeep of its large asset base, innovating with major capital-guzzling projects, and delivering shareholders the steady, returns they have come to expect.
Last year BT cut the dividend in half in respect of the 2020 financial year, to make way for the huge investment required to rollout full fibre broadband network to 25 million homes by 2026. The dividend for the following financial year was scrapped in the pandemic. As expected, the dividend has now been reinstated, with an interim payment of 2.31p a share and 7.7p pledged for the year. It has a good chance of sustaining that return, but perhaps only in the shorter term.
BT itself is in bullish form. A reduction in the cost of the infrastructure build and higher than expected take-up, means the group has decided to retain 100 per cent of the project for shareholders. Capital expenditure will peak in 2023 and come in at £4.8 billion, down from the £5 billion initially expected.
It hit an annual £1 billion cost savings target 18 months ahead of schedule and has brought forward a 2025 target for £2 billion of savings to 2024, which should feed through to the profit margin. Those cost reduction targets account for higher inflation, too. From the next financial year it expects lower Openreach build costs and earnings growth to kick through to rising free cashflow, which has been sapped by “unprecedented” capital expenditure in recent years.
Analysts expect normalised free cashflow excluding restructuring costs, the measure used to determine the sustainability of shareholder returns, to be between £800 million and £1.1 billion this year, against a dividend cost of £700 million.
But investors still need more convincing that BT can maintain cashflows over the medium-term. An enterprise value of 3.8 times forecast earnings before tax and other charges next year leaves BT more cheaply valued than any of its UK or European-listed competitors.
The biggest threat to BT’s investment in Openreach paying off is rising competition from rival networks such as Virgin Media O2. There might be no sign of a price war at the moment, according to Phlip Jansen, chief executive, but that could well not remain the case. If infrastructure providers do become more aggressive on pricing, wholesale customers such as Sky or TalkTalk could pass on that cost saving to their own customers and pose a greater threat to BT’s consumer business, thinks John Karidis, of Numis.
There are other potential drags on revenue too. The recovery in its global business, which sells services to multinational companies, has yet to emerge. Prevarication over a full return to the office and delayed project spend by corporate clients pushed revenue for this business down 14 per cent over the first half.
There’s still no word on getting rid of BT Sport and talks continue with a “handful” of parties. An outright sale would be good.
There’s also the pension deficit. That has been reduced substantially, to £7.98 billion at the time of the last triennial valuation in 2020, from £11.3 billion in 2017 and under a ten-year repair plan annual payments of £900 million are due until 2024, before falling to £600 million. Those contributions are funded via debt, but eventually the plan is to de-leverage and regain a BBB+ credit rating, which would divert cash.
The shares offer a potential dividend yield of about 5 per cent.
Advice Hold
Why The outlook for free cashflow looks positive in the short-term, which should back a generous dividend
Tate and Lyle
Ingredients specialist Tate and Lyle feels under-appreciated and is hoping that a sale of a controlling stake in the lower growth North American bulk sweeteners and industrial starches division will win it more market plaudits.
The shares have gone sideways over the past decade and at just over seven times forecast earnings before tax and other charges, far below food and beverage ingredients providers such as Glanbia, an Irish nutritional group, or Germany’s Symrise, both of whom trade at double-digit multiples. Tate and Lyle is now anti-sugar, tapping into the drive towards healthy eating by consumers. Channelling capital towards ingredients aimed at cutting the sugar and fat and increasing fibre content in food and drink should pave the way for higher revenue growth. Over the first six months of the year revenue generated by the remaining core food and beverage solutions businesses was up 21 per cent on the pre-pandemic level.
The idea is that the sale of the North Amercian primary products business will also reduce exposure to more volatile commodities markets, which has historically constrained investment research and development in other parts of the business. Over the next five years it wants to expand the operating margin by at least 50 to 100 basis points a year and boost the return on capital employed (ROCE) by an annual 50 basis points.That’s from a pre-pandemic adjusted operating margin of 11.5 per cent and a ROCE of 17.5 per cent.
Rising cost inflation has proved a challenge for the remaining European primary products business, as higher corn prices and low sugar pricing resulted in an £11 million operating loss for that segment. But at a group level, higher costs are being passed through.
Tate and Lyle has typically paid a generous dividend, but that will be reduced to reflect a smaller earnings pool after the primary products sale. Analysts at Bank of America have forecast a dividend of 20p a share this year, equating to about a 2.9 per cent dividend yield for investors at the current share price. But a simplified structure stands a better chance of reversing the shares’ slide.
Advice Buy
Why Reducing exposure to lower growth markets could provide further upside
