Interactive Investor

Stockwatch: making sense of this ultra-low valuation

27th June 2023 11:07

by Edmond Jackson from interactive investor

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It’s a tale of two sides at this small-cap company, but analyst Edmond Jackson believes a high-profile chair can mitigate risk and lead a recovery.

Making sense of a valuation 600

An AGM update from Saga (LSE:SAGA), a £170 million “lifestyle group for the over 50s” reiterates a persistent dilemma for this stock. Can growing momentum in cruise and travel kick into attractive profits, while the insurance side hopefully stands its ground? 

Underlying profit to end-January 2024 is expected “well ahead” of last year, although consensus has already targeted £37 million, then £46 million to January 2025, implying a valuation multiple of 5.8, reducing to a remarkably low 3.8 times, with the stock price currently around 120p.  

Yesterday, it dropped to 116p then bounced near the close to 123p on over 500,000 volume. In recent months, the price has rallied from an October all-time low of 75p. 

A return to dividends at some point hints at upside 

Covid halted payouts in the January 2021 year, and to help pay off new cruiser loans maturing, Saga has resorted to a debt arrangement with the son of its founder. In the current financial year, some £16 million ship debt has been repaid, leaving available cash of £150 million. 

But if Saga can manage a way through, such that a reinstatement of dividends becomes feasible, it need only pay 7p a share for current buyers eventually to enjoy a near-6% yield. 

I made a “buy” case at 123p this last April following mixed annual results. It actually breached 440p two years ago but now seems afflicted by concerns over the cost-of-living crisis – travel being discretionary spend, and price comparison websites aiding cheaper insurance renewals. 

Saga - financial summary
Year end 31 Jan

Revenue (£ million)901963871860842797338377581
Operating margin (%)12.618.322.221.0-16.0-37.7-18.1-6.2-43.7
Operating profit (£m)114176194181-135-301-61.2-23.5-254
Net profit (£m)-134141157139-162-313-67.8-28.0-259
Reported EPS (p)117180191179-198-382-67.0-20.1-186
Normalised EPS (p)12918319318551.5-56.3-17.3-15.2-55.7
Operating cashflow/share (p)212183169164181112-77.533.3-10.0
Capital expenditure/share (p)
Free cashflow/share (p)17614211564.1104-248-35919.824.9
Dividend/share (p)56.098.411612354.617.
Earnings cover (x)
Cash (£m)19910710983.212397.9102227177
Net debt (£m)499461379373347565721705715
Net asset value (£m)9841,0881,1951,226961588681653370
Net asset value/share (p)1,2101,3301,4601,4951,170716486465263

Source: historic company REFS and company accounts

Still speculative until cruise and travel profits are proven 

A key hope has been, can the introduction of two appealing new “boutique cruise liners” re-rate earnings? Management extended a carrot of £40 million annual profit (well, EBITDA) per ship. 

Covid then massively disrupted this, but now restrictions have eased older folk are more confident to travel. 

The stock could therefore trade materially higher by the time such numbers were to arise.  

Meanwhile, the gamble is on whether Saga’s “affluent pensioner” customer base is relatively well-insulated to maintain discretionary spending. 

I suggest enough are, given their mortgages have typically been paid down, offspring educated and cash-at-bank is now at least earning interest to withstand inflation. The mindset tilts towards: “We only have so much time left, best enjoy it.”  

An improving ship-load factor and encouraging bookings 

In the financial year to 31 January 2023, ocean cruising was near break-even, although river cruising struck a £5 million underlying pre-tax loss. Moreover, travel also made a £4 million loss. 

Insurance broking represented around £68 million underlying pre-tax profit relative to £19 million for underwriting (which is being sold). 

The AGM update (in respect of the first four months in this financial year) cites cruise and travel continuing to progress, with like-for-like revenue up 37%.  

The load factor has also increased for ocean cruises, from 72% to 79% over the comparable period; with a full-year load factor projection remaining 80%. River cruises are loaded at 74%. 

Management says it remains on track to deliver £40 million EBITDA per ship – the Spirit of Adventure and Spirit of Discovery. 

Perhaps falling fuel oil costs will help, according to exactly when hedging contracts expire. 

Encouragingly, ocean cruises are 34% booked for the 2024/25 year, “the strongest-ever”, although I question if a mere 1% price rise on such voyages (below the inflation rate) is effectively buying revenue.  

Coincidentally, retired friends are just back from a Spirit of Discovery cruise in the Med. They say: “guests are treated extremely well; nothing is too much trouble for the very friendly crew. You are chauffeured to Dover initially, and again from Tilbury on return. Saga has certainly done the homework and makes cruising a very pleasant experience for mature travellers.”  

In marketing terms at least, that appears to hit the spot. 

But might Saga insurance customers shop around for better deals? 

Total policy sales this year are down 6% like-for-like, although customer retention has edged up from 83% to 85%. 

It eases a concern how cost-of-living increases may finally be driving more pensioners to search online for better prices. 

Perhaps the dilemma chiefly relates to car insurance, where renewal costs are soaring by as much as 70%. The Office for National Statistics (ONS) cites an overall rise of 43% in the last 12 months; but for Direct Line DLAR renewals range from 50% over 75%, and a Saga customer was featured in last weekend’s media saying she was hit by a 77% renewal hike to £2,044 despite nothing in the policy changing. She found a cheaper one online. 

Brokers defend the rises, saying motor claims have risen this year. Saga also blames inflation, with spare parts such as microchips and semiconductors more expensive than before. Parts also take longer to arrive, which extends the time cars are out of action after a claim, requiring a courtesy car.  

Ironically, I find this consistent with why some over 50s say they do stay with Saga: “the proof of an insurer is when you make a claim”. Saga tends to rate highly for customer service, though its higher prices are exposed to ever-increasing online insurers under-cutting. But where claims handling is sub-contracted – to help deliver lower prices - can you even get through by phone? 

Nevertheless, Saga management is confident it can recover margin per policy from around £56 currently, to £60 in the medium term. 

Medical and pet insurance are new avenues, which is logical for affluent older folk and also to cross-sell to Saga customers. 

Private medical insurance has enjoyed 16% revenue growth and a new partnership has been secured with Bupa, said to “open up exciting new opportunities” which could prove timely amid growing disillusion with the NHS and resorting to private care. 

Pet insurance seems highly competitive though. Can Saga tempt owners out of existing policies, and on price? 

A possible sale of the underwriting side fell through, but this remains an objective. 

Declared ambitious expansion plan in place

Saga’s expansion plan appears to involve quite piecemeal initiatives: for example, a series of new products for Saga Money in the second half of the year; also, the launch of Saga Space next month, a subscription-based social media initially with a focus on health and well-being – offering classes, health advice and 24/7 GP access. 

To me, the crux for this stock remains same: whether cruise & travel can kick nicely into profits while insurance broadly stands its ground. 

Mind that net finance costs will rise from £41m last year 

Net finance costs had been flat but must rise with higher interest rates. 

The AGM update cites £150 million cash, versus the 31 January balance sheet having nearly £900 million financial liabilities. 

In terms of redemption risk: £150 million bonds due May 2024 should be covered with the help of chair Sir Roger De Haan’s £50 million loan; then there is a £250 million bond is due May 2026 which likely motivates the attempted sale of the insurance underwriting side. 

Debt issues therefore weigh on the equity and substantially explain its ultra-low price/earnings (PE) relative to forecasts. You therefore have to decide whether you think Saga can navigate successfully through. I regard Sir Roger as a backstop, mitigating risk, hence retain my stance. Buy. 

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

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