No immediate resolution to the dispute with HMRC over landfill taxes is expected and, in the absence of clarity as to the timing and scale of any potential payments, Augean’s management continues to take firm action to improve the strength of the business (disposals/cost control). The difference in market capitalisation between a share price of 25p and our DCF valuation of c 70p/share equates to c £47m and compares to the total of HMRC assessments received so far of £12m (five assessments).
While revenue rose 11% in FY17, to £84.7m (Edison FY17e £83.2m), operating profit fell to £6.4m (FY16: £7.8m). The main reasons for the decline were increased costs (put in place in H216), issues with a legacy contract at Colt, lower volumes in the soil market and exceptional costs of £8.6m (ongoing restructuring costs and an impairment charge to the carrying value of Colt of £6.3m). Given the continuing uncertainty relating to its landfill tax dispute with HMRC, Augean will not pay a dividend for FY17 (reducing cash outflow by c £1m in FY18). Capex increased to £8.5m (FY16: £8.4m). Nonetheless, end-December net debt was £10.8m, significantly below our forecast of £13.5m, and has fallen further to £8.9m (at 19 March). The lower debt figure was the result of stronger than anticipated operating cash flow (better working capital movements + lower tax and interest payments).
Before the results Augean announced the disposal of Augean Integrated Services (AIS) for up to £4.1m. Given the history of losses for this division (FY17: £0.4m), its negative contribution to cash flow and the c £1m of annual capex, the disposal will have a significant beneficial impact on group cash flow. We expect Augean to take similar action with other businesses that fail to generate cash. It remains of the view that there will be no swift resolution to the dispute with HMRC. However, Augean did reveal that HMRC has advised it that its original assessment of £2.8m, relating to the February 2014 quarter, will now be revised downwards by £1.5m (53%), due to the reclassification of the tax banding for certain types of waste.
We have revised our forecasts to reflect the results and the disposal. We now expect a quicker reduction in net debt (disposal of AIS/absence o70/f dividend payments/lower capex). Our DCF valuation, which excludes the impact of any settlement, indicates an underlying valuation of c 70p (c 11.3x FY18e normalised EPS). The difference in market capitalisation between the share price of 25p and the DCF valuation of 70p/share equates to c £47m and compares to the total of HMRC assessments received so far of £12m (five assessments).