The Propel Funeral Partners (ASX: PFP) initial public offer (IPO) debuted on the ASX yesterday, soaring on strong demand to $3.30.
This prices the company at around 30x its forecast full year earnings.
However, I think both Propel Funeral Partners and its major listed competitor, Invocare Limited (ASX: IVC) could be set to underperform from here, for a few reasons:
- It's a low-margin service business. With a relatively fixed death rate, the only way to grow is by taking market share and/or buying more funeral services
- This can be a problem because the primary way to take market share is to compete on price (implying lower margins) or service/brand/marketing (generally implying higher costs)
- Competition between two roll-ups like Invocare and Propel could lead to higher prices for buying new funeral businesses (implying a lower return on those businesses), and lower prices on the actual services that those businesses sell
- Both Invocare and Propel have grand expectations priced into their shares already, trading at ~22x earnings (or 40x operating earnings) and 30x earnings respectively
- Market size is fixed. Can't grow by attracting new customers, and since the type of death services that are popular are governed largely by people's beliefs, it is not easy to develop new 'value-add' products for the burial or crematorial process
It is possible that Invocare and Propel may be able to continue expanding for a while without coming into direct competition with each other, given that burial is primarily a local service.
Yet when the market size is fixed, adding new capacity (e.g. building new crematoriums) simply divides the existing market among a larger number of businesses. So it looks as though Invocare and Propel will be limited to growing primarily by acquisition, and the price paid for new businesses will be key.
To my mind it is hard to see Invocare and Propel returning more than a few % per annum over the long term, between growth and dividends, (Invocare's sales grew 1.7% at the most recent half year) and both businesses are too expensive for my taste.
As the incumbent, Invocare has more to lose, but I think the overall result will be greater competition in the industry and mediocre financial rewards for both players. I'll be watching from the sideline for now.
