DX (Group) plc Mix impact of new business wins leads to downgrades and dividend cut

DX (Group) Plc

DX (Group) plc (LON:DX) has announced that tough trading, cost and pricing pressures will significantly impact FY17 profitability. As a consequence, EBITDA is cut by 53% to £9.0m (previously £19.0m) leading to earnings declining 84%. As a result, the business has suspended the dividend, forecasts had previously assumed 2.5p in each year of the forecast period. Net debt increases to c. £21.0m from £5.7m previously. Today’s warning is particularly disappointing coming shortly after the announcement that DX had won the retendering of the HMPO contract. On FY18 earnings, which factor in a degree of recovery in profitability, DX is trading on 10.8x.

New business wins have disappointed – The trading statement alludes to several reasons for today’s downgrades but from our perspective new business wins have been disappointing in terms of scale and margin. Forecasts had been predicated on new business being won at a ratio of 4 to 1 to offset the declining Exchange revenue and its impact to profitability. We believe the decline in Exchange has been as anticipated but new revenue has not been won to the same level that was forecast leading to a 3.2% reduction in revenue from c. £307m to £297m. The lower than expected volume has hampered the ability to drive cost savings through the business adding an additional leg to today’s downgrades.

Mix of revenue has impacted margins – The impact of lower than forecast revenue has been exacerbated by the mix of revenue wins with low margin logistic revenue making up the majority of new revenue. There has also been increased price competition in the higher margin parts of the business, particularly Courier. Combined, the lower than anticipated revenue growth in higher margin services and pricing pressure, in what are fixed cost networks, means the business is adversely impacted by operational gearing. Leading to EBITDA margins declining by 320bps to 3.0%.

Forecasts – In FY17 revenue forecast declines 3.2% to £297.0m (prev. £306.7m) leading to EBITDA declining 53% to £9.0m, from £19.0m previously forecast. The resulting impact to earnings is significant at 84% as PBT declines to £1.9m from £12.2m. The decline in profitability combined with a higher than expected working capital outflow means net debt will be c. £21.0m, up from our previous forecast of £5.7m. We assume a degree of profit recovery in FY18 and forecast £11.0m of EBITDA followed by £13.0m in FY19, reductions of 43% and 34% respectively.

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Valuation – Post today’s downgrade DX (Group) plc trades on c.23x FY17 earnings which falls to c. 11x in FY18 as forecasts assume PBT recovers to £4.1m from £1.9m.

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