The market didn't respond well to Slater & Gordon Limited's (ASX: SGH) interim results yesterday, with shares closing down 30% after news of underperformance and massive write-downs in the group's operations.
Going forwards however, the key question for many will be whether Slater & Gordon can continue operations as a listed company, with share price losses of 92% in the past 12 months just about pricing the company for total collapse.
On paper, Slater & Gordon appears to have enough funding to continue operations for a little while, although this could be an illusory comfort.
The good:
- Slater & Gordon ("SGH") had $51.9m in cash and $783m of debt from a facility limit of $850.3m, giving total available liquidity of $119.2m as at 31 December 2015
- Cash flow from operations of negative $83m*, or 'gross operating cash flow' (excluding interest received, borrowing costs, and income tax paid) of negative $62.5m*
- Restructure and headcount reduction in UK operations
- Current value of the UK operations (after write-downs) takes into account proposed regulatory changes which have not been enacted yet
- Cash flow forecasts (not provided to the market) and Work In Progress claims have been revised downwards
*Slater & Gordon carries a stack of debt, so the $62.5m figure may not be appropriate even though SGH should pay less tax after recent losses
On the face of it, Slater & Gordon appears to have some room to turn things around and I ballpark that the company may have funding for another 12 months of operations, assuming headcount reductions and office closures as well as ongoing cash outflow.
However, I would not feel comfortable holding shares for that length of time.
The bad, and the ugly:
- Management must deliver an operating plan and restructure proposal to its lenders, and enact any reforms required by 30 April 2016. If no agreement is reached, the repayment date for the debt may be brought forward to no earlier than 31 March 2017 – just over 12 months away
- Noise Induced Hearing Loss case resolutions have been lower than expected; these were supposed to generate significant cash flow for SGH. It is uncertain if resolutions are not being achieved, or just require more time
- Despite new accounting standards, Work In Progress (WIP) remains elevated
Compounding the problems, Slater & Gordon has a poor record of financial forecasting and ordinary investors will find it difficult to trust management's claims going forwards. In the Managing Director's address on 20 November 2015, four months into the previous half, Slater & Gordon guided for operating cash outflow of $30-$40m in the first half, with a strong recovery in the second half. Although guidance was abandoned soon after, actual operating cash outflow was more than twice this at $83m. Management has also stopped talk of a stronger second half.
On another occasion, management had promised investors an update on cash flows in January and that update did not occur.
Foolish takeaway
It's very difficult to determine the likelihood of successfully investing in a struggling company if management has been missing their own guidance. While Slater & Gordon continues to talk about providing market-leading service, brand recognition, and 'an opportunity to lead the ongoing consolidation of the market', shareholders are still in the dark about the group's future cash flows and the restructuring deal to be struck with lenders.
The company has room to turn things around and could survive, if it can return to modest positive cash-flow now that the dividend has been scrapped. However, with so much uncertainty and the recent tendency of bad news to lead to worse news, taking a bet on the company is far too risky for my liking.
