Mears (LON:MER) was one of the stars of AIM and the share price went from a placing price of 10p to more than 500p in less than two decades. The social housing building maintenance services provider moved to the Main Market during that period, but the share price has been a laggard in the past few years and by the middle of 2019 it had more than halved since the beginning of 2017.
There has been a recovery since then, but the rating is modest given the prospects after Mears exits the operations that have been dragging it back.
The core operations of Mears have continued to perform well and generate cash. The main problem has been the move into home care services. This is an area where Mears appeared to be doing reasonably well in the early days, but there has been increasing pressure on pricing.
The theory was this business had a local authority customer base, which was already being served by the maintenance operations. In the 2017 Mears annual report it was emphasised that care was part of an overall service package with the maintenance and housing management operations.
Low margin work was shed. However, even after restructuring returned the care operations to profit, that profit has been small. The division has taken up significant management time that could be used on the rest of the operations.
Mears has decided to sell the main home care businesses but retain the more profitable extra care and supported living operations. Presumably, the latter still fit in with the argument that they are part of the overall services offered. They also tend to have better margins.
There should be little diminution in profit because the whole care business was 9% of last year’s EBITDA. The reduction will be around 5%.
The England and Wales care business contributed £1.7m EBITDA and negotiations for its sale are advanced. The Scottish care business, which contributed £900,000, should be sold later in the year.
Mears is unlikely to raise much cash from these disposals. An estimated £85m write-off shows how badly this diversification has gone.
Mears has also withdrawn from development operations and there will be a £2.5m write-off for that.
Mears will concentrate on maintenance and housing management operations. There are plenty of contract opportunities in this area. This should generate steady growth at least.
The main problem will be aggressive pricing by competitors. That has happened in the past – 2017 for example – but Mears knows its market and will not chase business.
The 2019 results will be published on 24 March. Net debt was £52m at the end of 2019 and strong cash generation from the core business means that this should continue to fall.
Continuing operations should be able to generate a 2020 pre-tax profit of £45m, up from around £37m in 2019.
At 315p, the shares are trading on less than ten times prospective 2020 earnings. The yield is 4%, rising to 4.4% for 2020.
That is attractive for a business that has a good track record when it shies away from diversification.