Cube Midcap Report (25 June 2020) – easyJet raises cash for flying restart

Cube Midcap Report (25 June 2020) – easyJet raises cash for flying restart

Good morning, it’s Roland here with today’s Midcap report.

We’ve been waiting for the last few weeks to see when companies will start issuing guidance for the remainder of this year. That’s starting to trickle through now, although there’s still much more to come. Equity fundraising continues as well.

Today’s report will include some examples of each type of news.

On my short list for today are:

  • easyJet (EZJ)
  • BAE Systems (BA)
  • Auto Trader (AUTO)
  • Royal Mail (RMG)

I’ll be here until around 1230 today finished at 12.55.


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Market cap £2.7bn
RNS £419m share placing
Writer disclosure No position

easyJet announced plans for an equity placing to raise £400m-£450m after market’s closed last night.

According to a statement this morning, the deal was done at 703p, raising £419m for the airline. Just over 59.5m new shares were issued, equivalent to 14.99% of the company’s share count.

In last night’s placing statement, the company highlighted significant cost-saving measures achieved to date. These include the deferral of 24 aircraft deliveries beyond FY2025 and a 70% reduction in cash operating costs while the airline is grounded.

easyJet says that the extra cash will boost total liquidity to £3bn, when added to a variety of new borrowing facilities and the proceeds from planned sale-and-leaseback transaction on aircraft.

Flights resumed on 15 June after 11 weeks of full grounding. According to the company’s updated guidance, cash burn during this period is expected to have been around £1bn.

Shareholders who are unhappy about being diluted can top up their holdings in the market this morning at a discount to the placing price. As I write, easyJet shares are down by 6% at 695p.

My view

easyJet shares have had a strong run in recent weeks. Raising cash at this level seems very sensible to me. The company is hoping to ramp up its flying schedule to 75% in August, but the reality is that we don’t yet know when airlines will return to profitable flying.

I covered the airline’s downsizing plans at the end of May – my view of this business remains cautiously favourable, although I think shareholders may need to be patient to enjoy strong returns from current levels.

BAE Systems

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Market cap £15.5bn
RNS Trading statement
Writer disclosure Long

FTSE 100 defence group BAE Systems says order in take is in line with the group’s original expectations for the year, but warns that half-year profits will be 15% lower than last year.

The company has faced a certain level of disruption to its operations in the UK and US as a result of coronavirus. Management single out Air and Maritime sectors in the UK and the group’s US commercial avionics business.

The shortfall will be due to lower levels of cost recovery, reduced volumes of high margin commercial work and a varying sales mix. Second half performance is expected to be “much stronger”, assuming no further disruption from COVID-19.

Some of this weakness looks like timing issues and temporary disruption to me. The only concern that jumps out to me from today’s statement is the weakness in the US commercial avionics business. This is said to be high margin, but I wonder if the hit to activity from COVID-19 could turn into a more prolonged slump, due to the downturn in passenger aviation?

My view

BAE’s share price is unchanged as I write, on a day when most things seem to be falling. This suggests to me that the market had already priced in short-term headwinds and doesn’t see much change to the longer-term picture.

At current levels I remain fairly positive on the outlook for BAE as a mature, income-focused investment. Broker forecasts I can see suggest a forward P/E of 10, with an expected dividend yield of 4.7%. It’s worth noting that this payout hasn’t been cut for more than 25 years — BAE regularly appears to face crises but has a knack of overcoming them. I see the stock as a potential buy at under 500p.

Auto Trader

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Market cap £5.0bn
RNS Final results
Writer disclosure No position

Graham has covered Auto Trader a couple of times in recent months, most recently commenting on the company’s decision to cut fees during the lockdown period, when car dealers were closed.

Car dealerships are now open again and today we’ve learned a little more about the company’s plans and initial post-lockdown trading.

However, I suppose I should start with a look at Auto Trader’s results for the year to 31 March, although these only seem to be of academic interest given events since then.


Last year’s performance was reassuringly normal, according to today’s numbers. Note that these are statutory, unadjusted numbers:

  • Revenue +6% to £368.9m
  • Operating profit +6% to £258.9m -> that’s an operating margin of 70%
  • Cash generated from operations +3% to £265.5m
  • Earnings per share +6% to 22.2p per share
  • Market share is now over 75%, 9x larger than nearest competitor
  • Average revenue per retailer forecourt (ARPR) +6% to £1,949

This much is all good and is in line with what we’ve come to expect from this firm. Note the high operating margin and the close match between operating profit and cash generated from operations. This is a high quality business, in my view.

Despite its impressive profitability and cash generation, Auto Trader still had to go cap in hand to shareholders when the COVID lockdown hit. I see this as a direct consequence of the firm’s focus on having an efficient (i.e. needlessly indebted) balance sheet.

During the year to 31 March, Auto Trader returned £126.4m of cash to shareholders through dividends and buybacks. This reduced net bank debt to £275.4m, equivalent to leverage of 1x EBITDA.

However, on the first day of the new financial year (1 April), the firm reclaimed all of this cash and more in a £186m placing. Graham covered this on the day.

Although Auto Trader could never have been expected to forecast a UK-wide lockdown, I don’t think that’s the point. The company is hugely cash generative and could easily have maintained a debt-free balance sheet, like its property peer Rightmove, which hasn’t needed to raise cash.

Return to trading: mixed signals

While Rightmove’s fortress-like balance sheet is enviable, its relationship with its customers is less so. Auto Trader has scored better here, in my view, quickly offering free advertising to customers during April and May. This was followed by a 25% discount for June.

The company says that rates will return to normal from 1 July, following the reopening of car dealers at the start of June. The key question now is whether car dealers will sell enough cars to keep them busy and loyal to Auto Trader.

Today’s commentary is mixed, in my view. Auto Trader says that visitor and enquiry levels have been at record levels since showrooms reopened on 1 June. However, the number of retailers on the platform has fallen by 3%. The company has also seen an increase in the number of customers giving 30-days notice of cancellation.

This table shows how advertiser (retailer) and stock levels have changed since March:

AUTO performance Mar-Jun 2020

The stock build-up which occurred during lockdown appears to have unwound. But retail numbers are down by 3% so far. It’s too soon to say whether the surge in activity since 1 June represents pent-up demand or genuine market strength. But Auto Trader management appear to be taking a cautious view.

In guidance for July onwards, the firm says it expects retailer revenue to be “down by mid-single digits” versus last year. This suggests the company expects continued attrition in the used car market. In my view, that’s a fair assumption.

My view

Auto Trader has opted not to give guidance for the remainder of the year, given the difficulty in forecasting forecourt numbers or stock levels over the coming months.

My view of this business remains very favourable. I feel confident it will remain the dominant player in this niche, especially given continued expansion into new cars. Given the exceptional returns on capital achieved in recent years (>60%), the current valuation on 35x 2021 forecast earnings might still be reasonable.

However, after such a strong rebound from March’s lows, my inclination at the moment is to wait for a better opportunity. With unemployment almost certain to rise during the second half of this year, I reckon the outlook for car retailers is indifferent at best.

Royal Mail

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Market cap £1.6bn
RNS Full-year results
Writer disclosure No position

Interim executive chairman Keith Williams starts today’s results announcement by giving recently-departed CEO Rico Back a mild kicking:

In recent years, our UK business has not adapted quickly enough to the changes in our marketplace of more parcels and fewer letters. COVID-19 has accelerated those trends, presenting additional challenges.

It’s a fair criticism, in my view. I’ve long believed that there’s some value in this business, which has a near-50% share of the UK parcel market. Despite this, I bailed out as an investor a long time ago. Events since then have made me glad that I did.

Today, Mr Williams has announced a three-step plan to transform the business. This includes cutting 2,000 management jobs and reducing planned capex by £300m over the next two years. The group is also planning to accelerate operational changes in the UK, which I read as speeding up the transition from letters to parcels.

Finally, Royal Mail appears to be targeting regulatory change with a review of its Universal Service Obligation – its requirement to offer a uniform service to every post code in the UK.

Results show divided business

Unsurprisingly, today’s results (for the year ending 31 March) are not pretty. I should also include a health warning here — Royal Mail makes relentless use of adjustments and exclusions. Finding a complete set of statutory numbers requires a lot of scrolling.

Let’s start with a summary of the income statement:

  • Revenue: +2.5% to £10,840m
  • Operating costs: +3.7% to £1,0623m
  • Operating profit before specific items: -36% to £217m
  • Actual operating profit: -65% to £55m

The problems are clear: costs are high and margins are very low. My sums show an operating margin of 0.5% for last year, down from 1.5% in FY19.

The balance sheet isn’t too bad, in my view, with £3.1bn of PP&E and net debt excluding lease liabilities of just £46m.

Cash flow improved last year, as well. Net cash from operating activities rose from £493m to £950m. However, this appears to be almost entirely due to working capital movements, which provided a cash benefit of £383m. The company appears to have improved receivables collection while paying its own expenses more slowly. I’d see this as a one-off benefit:

RMG cash flow FY20

Royal Mail vs Parcelforce: heading for a break up?

It’s easy to forget that Royal Mail Group actually contains two businesses, Royal Mail and General Logistics Systems (GLS: the international courier service which operates as Parcelforce in the UK). It’s worth contrasting the results from these two divisions:

Royal Mail

  • Revenue: £7,720m (FY19: £7,732m)
  • Operating profit/loss: -£140m (FY19: +£72m)
  • Operating margin: -1.8% (FY19: 0.9%)


  • Revenue: £3,161m (FY19: £2,888m)
  • Operating profit: £195m (FY19: £88m)
  • Operating margin: 6.2% (FY19: 3.0%)

To put these numbers in context, Royal Mail’s current market cap is £1.6bn. I don’t think it would be too much of a stretch to suggest that GLS alone could justify most of this valuation.

Interestingly, the company’s comments today suggest to me that a breakup might be possible (my emphasis):

“Royal Mail and GLS are different businesses, with different strategies. At Royal Mail, our focus is on a step change in transformation; at GLS we aim to continue to grow. Our new structure brings more focus and accountability and whilst there are few synergies today between Royal Mail and GLS, in the medium term an international presence is clearly important, and the opportunity remains to create more value for shareholders.

Elsewhere in the results the company mentions potential synergies between the two companies, such as Royal Mail providing last-mile services to GLS in the UK. But it seems to me that there’s very little reason at present for these companies to be joined at the hip.

A sale of GLS would release significant value and provide funds to accelerate the transformation of Royal Mail.

My view

My view remains that Royal Mail is worth close consideration as a value play.

The group has significant property assets and a relatively debt-free balance sheet. Royal Mail has a c.50% share of the UK parcel market and an unmatched distribution network.

However, it also faces significant hurdles thanks to its legacy infrastructure, regulatory obligations and large, directly-employed workforce.

The potential value of GLS as a standalone business adds another intriguing factor to the mix.

For patient value investors, I think Royal Mail shares could be worth a closer look at current levels.

That’s all I’ve got time for today, thanks for reading — and as always, thanks for your comments and thumbs up.




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    Thanks Roland – especially for your thoughts on Autotrader which I don’t own but feel I should. Maybe I’ll have to wait for the second wave??

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