BoA Merrill Lynch downgrades FirstGroup

1st Apr 2014 15:29

Analysts at Bank of America Merrill Lynch downgraded FirstGroup to 'neutral' ahead of Wednesday's pre-close statement, around which it foresees some shorter-term risk. The broker said the pre-close results were likely to show a difficult fourth quarter, with bad weather and swings in the US/GBP exchange rate having pressured FirstGroup's profit line. Secondly, BoAML has doubts about the awarding of the contract to run the Thameslink cross-London commuter service, currently operated by FirstGroup's First Capital Connect (FCC) rail subsidiary."The risks of the Thameslink franchise award are poised to the downside; if FirstGroup wins, in our view it is likely to add little; if they lose (which we believe to be more likely), it potentially sweeps circa £60m (of restricted cash) off the cash flow statement (as FCC would end this September). "This could re-awaken concerns of FirstGroup's negative free cash flow profile and, even, talk of a medium-term rights' issue risk." In the longer term, however, the broker is positive on the company due to its non-rail interests and a potential balance sheet clean-up. "In particular, we have confidence on a UK bus turnaround and interest deleveraging." Merrill believes there is the "significant scope" to lower the company's net interest costs from the current £155m on circa £1.7bn of adjusted net debt. "The company has circa £100m of net profit and with a more normalised (industry average) interest expense line, FirstGroup would begin to look particularly inexpensive on an earnings basis." The current valuation is "justified" on near-term risks versus longer-term opportunities. Shares in FirstGroup were down 4.9% to 138.7p at 15:40 on Tuesday.OH