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HomeServe: a fund manager favourite

The emergency home repairs and improvement group has big plans for the underdeveloped North American market and is building a leading digital platform at home
January 28, 2020

HomeServe (HSV) stands out as a favourite holding for a number of UK mid-cap fund managers. This includes Richard Hallett, manager of the top-performing Marlborough UK Multi-Cap Growth fund, which has the stock as its largest position. In Mr Hallett's view the company boasts “all the characteristics we look for in a high-quality growth business”. We're inclined to agree.

IC TIP: Buy at 1,336p
Tip style
Growth
Risk rating
Medium
Timescale
Long Term
Bull points

Large addressable markets

North American expansion

Checkatrade potential

Consolidation opportunities

Bear points

Premium valuation

Possible FCA reform

The company provides home emergency insurance and repair services across the UK, Europe and North America and has the potential to achieve high-margin growth on a number of fronts.

Using a network of employed and subcontracted tradespeople, its ‘membership’ business offers subscription-based home assistance for plumbing, heating and electrical malfunctions. The group grows its customer base and recurring revenues by signing long-term, exclusive partnerships with utility companies and acquiring policy books. The group also pursues complementary opportunities in the fragmented heating, ventilation and air conditioning market, targeting the full-product lifecycle from installation to servicing. 

In the more mature UK membership market, the company is boosting profits by ditching customers that dip in and out of policies based on discounts while selling more comprehensive cover to more loyal policyholders. So, although customer numbers dipped 11 per cent to 1.9m in the six months to 30 September, the revenue decline was less pronounced at 5 per cent to £148m, while adjusted operating profit was up by almost two-fifths to £14m, helped by restructuring and efficiency improvements. Regulation is a potential issue, and the Financial Conduct Authority (FCA) is reviewing pricing practices in the general insurance market. 

North America is where long-term growth prospects look most compelling, though. The market is relatively immature, with just 8 per cent of households having a home assistance policy versus 30 per cent in the UK and average policies per customer standing at 1.7 compared with 2.7 in the UK. Enjoying a market-leading position, HomeServe increased its US customer base by 13 per cent year on year to 4.2m during the first half of the year. It has secured over 750 utility partners from its target list of 8,000. The region has leapfrogged the UK to become the largest business. In 2019, adjusted operating profit from the region hit $88m on a 20 per cent margin. Confident it will reach its initial milestone of $160m, the group has increased its profit target to $230m with a 24-26 per cent margin. 

The home assistance market in regions where HomeServe operates is estimated to be worth £14bn, but this is dwarfed by the £450bn ‘home experts’ market that the company is now moving into. Homeserve has acquired full ownership of Checkatrade in the UK and Habitissimo, which serves Continental Europe and Latin America. These websites match vetted and reviewed tradespeople with customers. Revenue is generated by charging tradespeople a monthly fee to access a directory of potential jobs. Checkatrade is the UK’s leading online home repair platform. The market is immature compared with areas such as holiday booking and property search, but as illustrated by the likes of Rightmove and AutoTrader, there is the potential to create huge value from creating the go-to destination to find for tradespeople. 

Checkatrade is looking to expand beyond its stronghold in south-east England and capture 150,000-200,000 tradespeople out of an estimated addressable market of 600,000. At the half year stage, the number of subscribers had risen by a fifth to 38,000. Continued investment in growth, such as digital marketing, means home experts is not yet profitable, but break even is anticipated in 2022. Another open-ended milestone, Checkatrade aims to produce an adjusted operating profit of £45m-£90m with a 25-35 per cent margin.

Last year Homeserve bought a 79 per cent stake in eLocal to enter the US home experts market. It does not have the advantage of being a leader here, with eLocal's network of 11,600 tradespeople and $80m of revenue expected for 2019 a long way behind that of ANGI Home Services’ (US:ANGI) ‘marketplace’ business, which in 2018 had a network of 214,000 professionals and sales of sales of $774m.

Growth has come at a cost, with net debt up over a third at the half-way stage to £394m (excluding £57m in lease liabilities). Still, at 1.9 times cash profit, net debt (including lease liabilities) is inside the target range of 1-2 times. Mr Hallett also notes that investment in future growth is “suppressing profits in the short term, which makes the valuation look expensive”. Indeed, the shares are trading at 30 times forecast 2021 earnings. But the business Homeserve is building could justify such a rating in time.

HOMESERVE (HSV)   
ORD PRICE:1,336pMARKET VALUE:£4.5bn 
TOUCH:1,335-1,337p12-MONTH HIGH:1,350pLOW:923p
FORWARD DIVIDEND YIELD:1.9%FORWARD PE RATIO:30 
NET ASSET VALUE:178p*NET DEBT:76%** 
Year to 31 MarTurnover (£bn)Pre-tax profit (£m)**Earnings per share (p)**Dividend per share (p)
20170.7911226.515.3
20180.9014233.119.1
20191.0016237.021.4
2020***1.1018041.323.8
2021***1.2119544.925.9
% change+10+8+9+9
Normal market size:     
Beta:-0.59    
*Includes intangible assets of £863m, or 258p a share
**Includes lease liabilities of £57.4m
**JP Morgan forecasts, adjusted PTP and EPS figures