FirstGroup shares punished for franchise loss

A spectacular rally over the past six weeks took FirstGroup shares to an eight-month high, but the decline has been rapid and severe. 

Momentum for FirstGroup (LSE:FGP) shares was brought to an abrupt halt today as mid-cap investors also gave ASOS (LSE:ASC) shares the boot during another grim session for the retailer.

The pair’s heavy losses were offset by a strong performance for one of the biggest stocks in the FTSE 250 index, with Diploma (LSE:DPLM) up 134p to 2,828p after analysts at Jefferies swung behind the life sciences, seals and controls firm with an upgraded “buy” recommendation.

Other risers included Currys (LSE:CURY), Telecom Plus (LSE:TEP) and the GKN automotive and powder metallurgy business Dowlais Group (LSE:DWL) as the FTSE 250 reached mid-afternoon 74 points lower at 19,200.

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FirstGroup led the fallers board after the transport group was stripped of a north of England rail contract that it has been involved in running for the past two decades.

The decision by the Department for Transport not to extend FirstGroup’s TransPennine Express franchise beyond 28 May follows “months of significant disruption and regular cancellations”.

FirstGroup argued that factors such as the challenging industrial relations environment meant that service levels declined due to circumstances not wholly within the operator’s control.

It added that cancellations have fallen by approximately 40% since an agreed recovery plan was put in place in February, with expectations of further progress as more drivers become available over the next few months.

The move leaves FirstGroup with three major UK train operating companies in Great Western, Avanti West Coast and South Western Railway, as well as open access services Hull Trains and Lumi and its extensive regional bus fleet.

In 2022, TransPennine Express contributed £415.8 million of revenue to the group’s total of £4.6 billion and £13.2 million of adjusted operating profit.

Broker Liberum said the company’s failure to secure a two-year contract extension would result in a 4% cut to its 2024 and 2025 earnings expectations. It said: “The impact on our earnings estimates is modest, with negligible implications for value.”

The broker continues to have a price target of 165p, adding that the franchise blow is offset by the uplift in value from the progress in its share buyback programme. The FTSE 250 stock had rallied from 100p in mid February to 126.9p prior to today’s setback.

Analyst Gerald Khoo added: “We continue to see FirstGroup as a beneficiary of decarbonisation policies. These are going to require a shift away from private cars and taxis (now the single largest source of greenhouse gas emissions) in favour of public transport.

“More favourable government policies and funding are already evident in the UK, creating the potential for a pivot to bus industry growth over the long term that is not reflected in the current valuation.”

FirstGroup was joined on the FTSE 250 fallers board by ASOS as the fast-fashion chain followed yesterday’s results-day 23% slide with a further fall of 38p to 449.4p. It had been near 1000p in early February and above 4,500p at the end of 2020.

This week’s selling follows misses across the headline numbers for the six months to 28 February, including the bottom line loss of £291 million and a 10% fall in revenues in constant currency terms.

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The company’s forecasts for the second half point to a sales decline in the low double-digits, while its guidance for free cash outflow of £100 million in 2023 also disappointed analysts. Net debt closed the half at £431.7 million, up from £62.6 million in 2022.

Despite the short-term sales outlook, chief executive José Antonio Ramos Calamonte believes there are “many causes for optimism” at the start of the second half year.

These include an improving gross margin run rate and the benefits of a repositioned stock profile. He added: “I am very confident of our return to sustainable profit and cash generation in the second half of the year and beyond."

Deutsche Bank cut its price target from 950p to 725p following the results, adding that it believed ASOS had sufficient headroom to manage without an equity raise.

The bank said: “Investors appreciate that the company needs to show a return to profit to move out of the net debt position but we believe there is limited likelihood of a re-rating until the sales trajectory recovers.”