George Osborne’s austerity measures are beginning to bite; and UK Plc is feeling the pain.
On Tuesday morning shares in the confusingly named Cable & Wireless Worldwide fell 12p, or 14 per cent, to 71.5p after the telecoms company warned profits would be at the low end of City forecasts because of a sharp slowdown in UK public sector spending brought on by the newly-elected chancellor’s emergency budget.
From the RNS:
In the first quarter our major programmes and lines of business performed broadly in line with plan.
However, following the new Government’s Emergency Budget in late June, non-contracted spending in the UK public sector has slowed very significantly. Given the nature of our public sector business, this reduction will adversely impact trading in the current year.
C&W is the second FTSE 350 to company to blame the Chancellor for an earnings miss — the first was social housing company Connaught — and the question on the minds of brokers this morning is who will be the next?
An obvious candidate is BT. Via its Global Services division, 11 per cent of group revenues come from the public sector — roughly the same proportion as for CWW. Logica, the IT services company, is another. It derives 13 per cent of sales and around 15 per cent of profits from the UK government, largely from the defence, justice and home affairs departments.
Outsourcers Serco, Capita and Babcock could also be hit hard by the austerity drive. Indeed, Frances Maude, the minister for the Cabinet Office, has already told the 20 biggest suppliers of services to the UK government to cut their prices in order to help reduce the nation’s deficit.
To a degree some of this is in the price. Shares in Logica, for example, have lost a quarter of their value since April. But the pounding taken by CWW this morning shows that investors are still too sanguine about the size and scope of the ConDem coalition’s cost cutting measures.
Either that or they fear much worse is to come. Indeed, given the fat profit margins on public sector work they have every reason to be afraid.
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Analysts are putting through Ebitda downgrades of 3-4 per cent to the consensus forecast of £467m for CWW post this morning’s statement. According to Deutsche Bank, CWW derived £285m, or 12.5 per cent, of revenues from public sector clients last year. Most of that business was contracted, but a 20 per cent portion was not, and it is this bit which has dried up since the emergency budget. And this £57m of non contract revenue is reckoned to have generated a cool £20m of profit.
So in that context today’s fall is not an overreaction. The City is right to be worried that the government will look to reduce costs in other contracts. And in practice there’s very little CWW can do about it, if the company wants to be short-listed for other public sector work. The same applies to the likes of BT and Logica, who must be quaking in their boots today.
On top of all that, the City has long had reservations about CWW’s ability to generate cash, and this profit warning will do nothing to allay those fears.
Says JPMorgan.
We downgrade our recommendation to Underweight (from Neutral), believing it will take some time to rebuild investor confidence in the investment case following today’s news. The valuation metrics remain mixed but reported equity free cash flow of £95m compares with the market cap last night of £2.2bn.
And note; CWW’s performance since the March demerger from its international business, Cable & Wireless Communications, has been lacklustre to say the least:
Not good.
Related links:
Cable & Wireless Worldwide warns on profits – FT
Austerity vs stimulus - FT debate