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Helphire needs a handout

Created:

14 July 2008

Written by:

Simon Thompson

This really takes some beating. Not only did Helphire, a provider of replacement vehicles for drivers involved in accidents that are not their fault, warn of a market slowdown last week, sending its shares down 20 per cent on the day, but it followed this up by announcing the departure of its founder and chief executive Mark Jackson and former finance director David Lindsay two days later. Accompanying news of the resignations the board revealed that it was 'pleased to announce a conditional placing and open offer of 40.8m shares to raise £45m….at a price of 110p a share, a 8.9 per cent premium to the yesterday's closing price.'

Pleased for whom, shareholders may well ask, as the board clearly needs some reminding that shares in the company have plunged by 75 per cent since last autumn, when they were trading at over 400p. In this time, pre-tax profit guidance has been reined back from around £60m for the year to June 2008 to a consensus of £46m to £52m, mainly as a result of margin pressure. News of that profit warning in late February sent the shares crashing by 40 per cent in a single day. Unfortunately, there may be further downside to come.

Car prices crash

Despite the company confirming that it is comfortable with the depreciation policy on the company's fleet of 18,500 vehicles, I have serious concerns. For starters, Glass's Guide, the industry bible which monitors the value of used cars, says the prices of cars aged between one and three years old have fallen in value by 12 per cent so far this year compared with the usual depreciation of about 8 per cent. Moreover, it expects used car prices to collapse by 25 per cent over the course of the whole year as the impact of the credit crisis and the government's plan to increase vehicle excise duty hit hard.

The problem for Helphire is that at the end of March, it had £200m of fleet-related financing, as well as £161m of other borrowings, so is heavily exposed to the falling resale value of its vehicles when the company comes to sell them. Until two years ago, that wasn't a problem, as Helphire only owned 20 per cent of its fleet and contract hired the balance. However, by March those figures had reversed around completely and the company now owns over 80 per cent of the fleet. True, owning more of the fleet may have been financially more attractive for the company, but only if second-hand vehicle prices are stable. Clearly, they are not.

In fact, as one broker notes: "Helphire's exposure to second-hand car prices is not new, but realistically one would imagine that we will now start to see losses on disposal through the profit and loss account as car values fall, despite management comments on the suitability of their depreciation policy." So unless the company negotiated some amazing deals on car purchases prior to the collapse in used car prices this year, then it seems inevitable to me that it will incur some hits on the resale of its fleet. We will not have to wait long to find out, as Helphire's policy is to run its vehicles for only 12 months.

Weak finances

The fall in used car prices aside, the shares also carry a high financial risk, with net borrowings of around £350m (pre-fundraising) dwarfing net assets of £135m. Admittedly, in a recent analysts' meeting, the new finance director Mark Adams denied the company had breached or got close to breaching its banking covenants, but the fact that the board found it necessary to call on shareholders for fresh funds with the share price sitting at a six-year low does raise concerns over cash flow and liquidity. Even without these issues, the risk to Helphire's earnings appears to be on the downside.

For instance, assuming 10 per cent growth in its underlying hire case load in the year to June 2009 (against 20 per cent in the six months to June 2008), analysts at Landsbanki expect adjusted pre-tax profits to edge up from £46m in the year just ended to £47.5m in the current financial year with EPS falling from 23.8p to 19.5p, reflecting the extra shares in issue post the fundraising. Though these estimates are at the bottom of the consensus range they could still prove over optimistic given that gross margins are under pressure. In fact, Landsbanki is already factoring in a two percentage point decline in gross margins in the current financial year. They could fall even further as there is growing evidence that high fuel prices are dampening down car use, so it would be logical for the number of road accidents, and in turn demand for Helphire's services, to be impacted by this in due course. Moreover, given the operational gearing of the company's business model, and factoring in a 6 per cent rise in the underlying cost base this year, annual revenues have to increase by almost 14 per cent to £447m just to generate that modest profit growth.

Slowing growth

At best Helphire looks as if it has gone ex-growth which explains why the shares, trading back at the open offer price of 108p, are rated on a lowly 5.5 times forward earnings. But with the risk of downgrades to profit estimates a possibility later this year, and the company embarking on a difficult period of trading without its founder and chief executive, then I would steer well clear of the fundraising. If you haven't bailed out already, use any strength in the share price as a selling opportunity.

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