National Express focuses on its ESG qualities

National Express (NEX) is positioning itself as an environmental, social, and governance (ESG) play. Cars currently produce 70 per cent of surface transport emissions so cutting car journeys is essential for reducing emissions. The coach operator pointed out that a shift to electric cars won’t solve this problem alone because making an electric car is carbon intensive. Shared travel will always be better for the environment, although occasionally wretched for the individual.

Covid-19 caused a shift towards cars and away from public transport. National Express's £2.17bn of revenue generated in 2021 was 11 per cent up on 2020. However, it was still 26 per cent below pre-pandemic sales. The underlying operating margin of 4 per cent is also half of what it was two years ago.

There are some tailwinds that might help National Express return or even exceed pre-pandemic sales. Intuitively, rising oil prices might seem like a bad thing for a coach company. However, it has fully hedged 2022 fuel at a lower rate than 2021, which means journeys on its coaches should be even better value. The rising cost of living could also mean a shift towards domestic travel away from more costly foreign holidays, as discretionary incomes shrink.

Management is hoping to seize this moment with the launch of its ‘Evolve’ strategy. The stated aims are to add £1bn of revenue by 2027 with £100mn of additional operating profits. It also wants to maintain an average cash conversion rate of 80 per cent during this time.

These are ambitious cash targets given that some serious investment will be needed to transition its fleet to net-zero by 2040. However, growth capital expenditure (capex) was cut in 2020 to £35mn but was back up to £134mn last year and, historically, capex has always exceeded depreciation so its buses will have been in good condition heading into the pandemic.

If this plan is to succeed, the US market will have to play a big part. North America is its largest and highest-margin market. Revenue was up 7 per cent last year, but there should potential for much more growth next year. The recent US embargo on Russian oil will make cars more expensive to drive and the lack of a high-quality rail service means there is less competition for other public transport.

Some bad news for management is that Stagecoach (SGC) looks like it will be sold to German asset manager DWS rather than merging with National Express. However, given the deal had stalled because of an investigation by the Competition and Markets Authority, it was not a huge surprise. 

Despite the merger collapse, brokers are confident in National Express’s growth plans, with consensus forecast of 29p for 2023 EPS. This leaves it on a very affordable 2023 PE ratio of 8.2. An ESG play with potentially strong tailwinds, but one that may require patience from investors given that management expects that profit recovery will lag revenue growth in the near-term. Recovery buy.

Last IC View: Hold, 260p, 29 July