Report Card: Contact needs to lift performance

Friday 15th June 2001

Customers are always right, even when they are wrong. That is a rule businesses try to live by but many find difficult.

The adage applies as much to investors as those who buy a company's goods or services. Sometimes, the board and management of a company come to believe that investors who don't appreciate the company's "true value," as reflected in the share price, are wrong.

This appears to be the case with Contact Energy, which has suffered from a share price that remains stubbornly below its 1999 offer price of $3.10 - a situation the company obviously feels is unwarranted.

This frustration comes through in Contact's annual report, which elects for an upbeat theme on how it is "making the right moves." This comes across as a little defensive and presumably is designed to counterbalance some people's impression that it isn't doing such a great job.

In a joint statement, chairman Phil Pryke and acting chief executive Stephen Barrett (recently appointed permanently to the role), stress the company is building long-term value.

"We have delivered on all operational fronts, despite an extremely tough operating environment, lifting our total dividend payment per share by 10% and returning a surplus that is in line with our expectations and above that forecast in the prospectus. The result was achieved by making the right moves."

They are in danger of overstating the case.

The outperformance of the prospectus forecast, for example, is a matter of interpretation. While the net profit figure of $97 million is undoubtedly above the forecast of $78.4 million, asset sales and the beneficial impact of capital gains on its tax bill bolstered the latest result.

On another measurement, earnings before tax, the company made $115.4 million, slightly lower than the prospectus forecast of $119.5 million despite higher revenues.

Nor does the company's performance compare well with the previous year. Gross earnings (ebitda) were down 13% on 1999 to $232.5 million while the gross profit margin fell 24%. None of these figures point to robust performance.

Messrs Pryke and Barrett also say they are disappointed that Contact's share price "has not reflected the underlying financial strength and value of the company." In response, the company bought back 21.3 million shares at an average price of $2.65 last year. So far it has been proven right, with the shares currently trading at around $2.95.

Another area that deserves scrutiny is the level of dividends. In 1999 the company paid out 15.8c a share (61% of earnings) or $65 million (56% of net operating cash flow). Last year it paid out 17.4c (108% of earnings) or $96.6 million (96% of net cash flow).

This high rate of payout is justified in the management report as being "consistent with the intentions of the board set out in the prospectus that the dividend should be progressive." However, this sort of progressiveness does not appear sustainable unless Contact lifts its performance in the current financial year.

To its credit, the company does not try to hide any of the less attractive details, and disclosure levels are well above statutory minimums. Information, comment and descriptions are clear and comprehensive, particularly in the management and financial reports.

What jars is that the self-congratulatory tone of the report and some comments within it do not appear justified by many of the numbers.

David McEwen is an investment adviser and author of weekly share market newsletter McEwen's Investment Report. www.mcewen.co.nz, davidm@mcewen.co.nz

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