Stockwatch: can vaccine hopes transform Saga’s prospects?

by Edmond Jackson from interactive investor |

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Cruise giant could benefit if its customers feel confident enough to take holidays next year, but will the demand be there?

Among stocks most sensitive to vaccine hopes earlier this week has been cruise operator and insurance group Saga (LSE:SAGA). The price leapt from about 140p to near 200p last Tuesday, though has since drifted back to 183p.  

Bear in mind this is after a one for 15 share consolidation, hence the price is down from over 3,000p a few years ago. In old money the rebound has been from about 9p to 13p.  

Only last September, Sir Roger De Haan, the 72-year-old founder of Saga, participated in a £150 million equity capital-raise. He established a 26.4% stake in the group, 63% of which was paid for at 27p a share and the remainder at 12p along with other investors.

Clearly he believes in its prospects, and has deployed a substantial element of his fortune. You could say he has emotional attachment, although I have come across few 70-somethings with such sharp insight and management wits. 

Around 68% dilution from rescue placing

The declared aim was “to strengthen Saga’s balance sheet, improve liquidity and support a reinvigorated strategy under a strengthened management team”. 

Yet such was the scale and complexity of the capital-raising involving (I estimate) 68% equity dilution, it appeared like rescuing Saga from its debt-gamble on two smart new cruise liners prior to the pandemic. 

Net of costs the raise was £140 million: applied to cut a term loan from £134 million to £70 million, repay £40 million of a credit line and increase cash availability by £36 million. 

Management conceded the group might otherwise not comply with all its financial covenants by the end of July 2021.

The investment rationale hinges on cruises bouncing back

At September’s interim results the insurance side appeared to break even, helped by ongoing popularity for three-year fixed price policies and lower motor claims due to less driving during the springtime lockdown. 

Home insurers’ claims must also be falling, given more people are working from home, which deters thieves prowling around. Certainly my local neighbourhood watch has far fewer alerts nowadays.

Insurance remains highly competitive. So, the investment case for Saga hinges on whether countries’ measures to cope with this pandemic can facilitate a resumption of cruising – perceived as safe enough to attract clientele.

Of genuine appeal, the Spirit of Discovery and Spirit of Adventure launched in 2019, to offer luxury boutique cruising rather than ships for the masses. Each guest room has a private balcony. Although the cruise experience does not appeal to me, I have followed coverage of these liners’ launch and public reaction has been positive.  

Management said with the interim results and capital-raising:

“Saga benefits from having very new, technologically advanced and smaller ships. We have held detailed discussions with government and industry bodies regarding safe resumption of cruising and are ready to resume travel when restrictions are lifted.” 

However, resumption of cruises appears to have been twice deferred recently, from 29 September and 3 November updates on the Saga website. 

That might have contributed to the stock price drift. The latest said, cruises on these prime liners had been rescheduled to April and May 2021 for people booked in February and March.   

This kind of venture does not attract me personally. What if you cannot disembark at most places during a voyage, or end up quarantined in your cabin if there is a Covid-19 outbreak, and then again at home afterwards? 

But I recognise cruising has dedicated followers who most likely cannot wait to return. Saga appears to occupy an attractive marketing space between liners-for-the-masses and very expensive yachts for up to a dozen people.

If vaccines can get a grip on Covid-19, such that cruises can go ahead without disrupting pleasure, then in a couple of years’ time trading could be plenty better.   

Remember that net assets are wholly goodwill 

Net assets were £556 million last July. Notwithstanding a £140 million cash boost since then, goodwill comprised £719 million and there were also £57 million intangibles.

Realistically the Saga brand does deserve intangible value given its Possibilities membership programme has more than a million members in the attractive 50+ demographic for spending, also be less likely to switch and shop around.  

Yet hopes at the May 2014 flotation - of a major lifestyle brand in the making, towards wealth management, banking and retirement villages – have had a massive reality check. You are judging prospects chiefly for home, motor and travel insurance, plus cruises and tours.

In the six months to the end of July 2020, £687 million financial liabilities generated a £12 million net interest charge.

That is in the context of £131 million gross profit that became a £16 million underlying profit, if you disregard e.g. a £62 million asset impairment charge. In a low-interest rate era, this extent of debt does not appear excessive – relative to plenty of other PLCs – but clearly it was decided a £140 million re-capitalisation was necessary to surmount Covid-19 challenges.   

As an indication of ongoing cash demands, note 12 to the interim accounts cites £667 million bond and bank loans, within which note 16 describes £235 million (as of July 2020) as a ship loan: “In June 2019 the group drew down its financing for the Spirit of Discovery, of £245 million. This comprised a 12-year fixed rate sterling loan…repayable in 24 broadly equal instalments, with the first payment of £10.2 million paid in December 2019.” 

The January to July 2020 cash flow statement has another such payment, of £10 million.

The £140 million cash injection came despite debt covenants already amended last March, where bank facilities would be tested quarterly and where no dividends can be paid while leverage is greater than 3x. 

I would write off dividend hopes for some time, but if and when a payout policy does resume it would underline a turnaround. 

SAGA - financial summary            
year end 31 Jan 2015 2016 2017 2018 2019 2020
             
Revenue (£ million) 901 963 871 860 842 797
Operating margin (%) 12.6 18.3 22.2 21.0 -16.0 -37.7
Operating profit (£m) 114 176 194 181 -135 -301
Net profit (£m) -134 141 157 139 -162 -313
Reported EPS (p) 117 180 191 179 -198 -382
Normalised EPS (p) 129 183 193 185 51.5 -56.3
Operating cashflow/share (p) 212 183 169 164 181 112
Capital expenditure/share (p) 36.0 41.2 53.4 100 76.9 360
Free cashflow/share (p) 176 142 115 64.1 104 -248
Dividend/share (p) 56.0 98.4 116 123 54.6 17.8
Earnings cover (x) 2.1 1.8 1.7 1.5 -3.6 -21.5
Cash (£m) 199 107 109 83.2 123 97.9
Net debt (£m) 499 461 379 373 347 565
Net asset value (£m) 984 1,088 1,195 1,226 961 588
Net asset value/share (p) 1,210 1,330 1,460 1,495 1,170 716
             
             
Source: historic Company REFS and company accounts            

Two US financial investors indicated offers at up to 33p a share 

It intrigues me how many bigwigs have been tempted by Saga’s turnaround prospects.

First was Elliot Partners, a US activist hedge fund that acquired 5% in July 2019 but subsequently appeared to lose faith.

Then came two US financial investors making approaches with offers up to 33p a share. This looks to have partly triggered Saga’s founder’s arrival as a ‘white knight’ defusing a possible hostile takeover bid. 

All such people will have had their eyes set on prospects a few years’ hence: the cruise/travel side revived by the new ships and better-managed insurance. 

It might not involve a Berkshire Hathaway scale  of ‘float’ (i.e. excess cash from selling insurance, versus claims) but attuned insurers tend to enjoy strong free cash flow. 

For what the consensus is currently worth, a net profit of £9 million is targeted for the current year to January 2021 and £40 million to 2022, for earnings per share (EPS) of 7p and 37p respectively. 

That might be fair enough on a normalised basis after the group was profitable at its interim stage. Dilution will check EPS recovery, but at current share prices a mid-single figure price-to-earnings ratio offers re-rating scope anyway.    

Saga therefore merits attention if you believe vaccines can achieve a world at least without the extent of disruption we see today.

From next year there could be a release of pent-up demand for cruises among affluent older folk, looking for more enjoyment in their silver years. On such rationale: ‘buy’.

Edmond Jackson is a freelance contributor and not a direct employee of interactive investor.

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