Report Card

Friday 2nd March 2001

Most of the focus on Contact Energy lately has been on its underperforming share price, the high salary of its last chief executive and unsuccessful attempts to increase directors' fees.

Less has been said about the company's performance and prospects. This is in spite of a level of information in its annual report that is far superior to the norm.

This may be a result of being controlled by a US company, Edison Mission Energy, which is used to disclosure requirements that are much more detailed and stringent than in this country.

For example, the first item in the "management discussion" of Contact's result for the year to September 30 is a recalculation of its net profit without major non-recurring items.

These range from gains on the sale of assets, to tax credits to write offs.

This recalculation shows its core net profit shrinks from a reported $97 million to $61 million while its 1999 result goes from $155.4 million to $88.2 million.

The profit of $61 million means the company has fallen well short of its $78.4 million result forecast in the company's prospectus (which is unlikely to have relied on non-recurring items), even though the reported result is considerably higher.

Similar disclosures are made about why a full year of earnings from new retail assets has boosted operating revenue over 1999 and the various reasons for a slump in gross profit margins.

This sort of information is normally found only by investors who have the time and the ability to make their own calculations and its prominence in the Contact report is welcome.

One subject that requires a close look at the numbers is the company's cash flows. Despite increasing sales to customers by 9.4% to $789.3 million, its net cash flow after paying suppliers, employees, tax and interest was down 16.5% to $100.9 million.

Meanwhile, its dividend payments have increased from $65 million to $96.6 million. This leaves little surplus cash for the company to use elsewhere.

Unless net operating cash flow, or net profit without non-recurring items, improves markedly, shareholders should not hold their breath for an increase in dividends.

Another item relates to the company's results on a per share basis. Figures for earnings per share (down from 25.7c to 16.2c), shareholders' funds (down from $2.68 to $2.63) and dividends (up from 15.8c to 17.4c) are displayed prominently on the first page of the report.

However, a note says the calculations have been made "excluding treasury stock." This refers to the company's share buy-back scheme, which began last March.

A note to the accounts shows the company bought 19 million of its own shares by September 30, reducing the number on issue from 604 million to 585 million. These shares have not been cancelled but are being retained for a year for possible resale.

In order to get a meaningful comparison with the previous year, these shares should be added back. The effect is to make the per share figures look worse.

Earnings per share would decline from 16.2c to 15.7c, shareholders' funds from $2.63 to $2.54 and dividends from 17.4c to 16.9c. No dividends were actually paid on the treasury stock, so the recalculated figure merely shows that the effective rate of increase in dividends relative to the previous year's payment is not as attractive as it first seems.

One weakness the Contact annual report shares with many others is the lack of detail about the future. All readers are given is a few bland comments about responding to competitive or regulatory changes in the sector, improving efficiency and increasing revenue.

Commercial sensitivities may have played a part in this but companies tend to over-rate the value of their strategic plans to others. Ultimately, this information should be made available to the company's owners, the shareholders, so they can make informed decisions about the allocation of their capital.

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

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