Micro Focus improves its cash generation, but debt problems predominate

  • Cash conversion ratio decreases due to working capital
  • Revenue forecast to avoid a drop next year

Software and consulting company Micro focus (MCRO) is still struggling to rein in its disastrous purchase of Hewlett Packard’s enterprise software business by cutting costs. This puts it in an attractive position to manage interest rate hikes even as it maintains healthy dividends and strong cash generation, and even with massive debt – an ungodly balancing act.

Adjusted cash earnings (Ebitda) fell 12% to £1bn. However, the statutory operating loss was significantly reduced due to a strong reduction in depreciation and exceptional costs. Excluding these one-off charges, adjusted free cash flow was $292m (£216m). This was less than half of last year due to one-time tax payments and working capital outflows, some of which were due to timing differences in the payment of receivables.

Cash conversion increased from 113% to 87.1%. However, management expects an adjusted free cash flow rate of approximately $500 million on an annual basis through 2023, with a flat revenue trajectory.

The biggest concern is the net debt burden of $4.2 billion (excluding lease debt). Micro Focus managed to lengthen the average maturity of the debt stack to 3.6 years from 2.7 years, and took advantage of this respite to increase the final dividend to 20.3¢ from 15.5¢ a year last.

Real estate broker Numis forecast net debt to fall to $3.59 billion by 2023 and free cash flow yield to reach an impressive 15.3% by then. That’s kind of progress, but the company could find it harder to service its debts given the likely path of interest rates. However, with stocks trading at a 36% discount to net assets and better cash generation, we are moving (cautiously) to hold.

Last Seen IC: Sell, 514p, Feb 2, 2021

ORDER PRICE: 394p MARKET VALUE: £1.32 billion
TO TOUCH: 393.4-394p TOP OF 12 MONTHS: 596p LOW: 327p
NET ASSET VALUE: 840¢* NET DEBT: $4.18 billion
Year to October 31 Revenue (in billions of dollars) Profit before tax (in billions of dollars) Earnings per share (¢) Dividend per share (¢)
2019 3.35 -0.34 -4.87 nil
2020 3.00 -2.94 -885 15.5
2021 2.90 -0.52 -126 20.3
% cash -3 +31
Ex div: March 10
Payment: April 21th
£1 = $1.36 * Net assets include intangible assets of $8 billion or 2,383¢ per share.

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