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Stagecoach shares travel higher as JPMorgan says dividend cut unlikely

JPMorgan raised its rating on Stagecoach to ‘neutral’ from ‘underweight’ and lifted its target price to 174p from 131p.
Stagecoach
Stagecoach is on a shortlist of bidders for the new Southeastern franchise

Stagecoach Group PLC (LON:SGC) is unlikely to cut its dividend as it is expected to lower capital intensity in its UK bus arm and is well-placed to win new rail franchises, JPMorgan Cazenove said.

Shares in the transport operator rose 2.64% to 182.60p in morning trading as JPMorgan raised its rating to ‘neutral’ from ‘underweight’ and lifted its target price to 174p from 131p.

JPMorgan was previously cautious over Stagecoach’s dividend cash cover in the business, excluding rail.

The financial services firm said it does not believe the outlook for the ex-rail business has improved, with cost inflation still likely to outpace revenue growth over time.

“However, we have become more positive on two fronts; Likely lower ex-rail capital intensity as mileage is reduced and the ability of Rail to win new profitable franchises,” it said.

“A combination of these factors leads us to conclude that the dividend is unlikely to be cut.”

JPMorgan 'hopeful' for capex cut

JPMorgan said that the dividend is not covered on a normalised ex-rail free cash flow but it its "hopeful"  the group can reduce its capital expenditure/depreciation from a historic1.5x level to around 1.2x over time as mileage is held flat or reduced.

“On this basis, and on our more conservative ex-rail forecasts, we believe annual rail free cash flow of £14mln is required to cover the dividend,” it added.

On the rail business, JPMorgan said it was “encouraged by the better risk profile” on the upcoming Southeastern franchise.

The company is on a shortlist of bidders for new Southeastern and West Coast Partnership franchises.

“Critically, this gives us some confidence in rail's ability to contribute to the group over the longer term,” JPMorgan said.

First half trading 'poor'

However, JPMorgan said first half trading was “poor” as regional bus profits fell 5.1% year-on-year despite a reduction in fuel costs. Wage inflation appears until control but could deteriorate over time, JPMorgan added.

READ: Stagecoach leaves 2018 earnings forecast unchanged despite lower bus revenues in first half

“The rail performance was better than we had expected, though we note second half profits are expected to be around flat.”

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