This FTSE 100 stock is misunderstood by the market

This is understandable. DCC has grown through acquisitions, having completed almost 400 as of the end of its last financial year, and these are organised into three disparate divisions: energy, healthcare and technology.

Meanwhile, the company still generates almost three-quarters of its adjusted operating profit from an energy business that shifts 15.2bn litres of fuel every year. About a third of this fuel is sold through DCC’s energy mobility business, which owns or operates more than 1,000 forecourts, and supplies fuel to another 1,500. The other 10.7bn litres are supplied directly to end users through companies such as Flogas in the UK and Butagaz in France.

Fuel distribution certainly has an outsized effect on DCC’s top line. Last year, a fall in the wholesale cost of energy caused group revenue to slump by a tenth. However, less than a fifth of DCC’s operating profit comes from what it deems “traditional” fuel, such as petrol and other oils. 

The biggest portion of operating profit is instead generated by “lower carbon” sources such as natural gas and biofuels, and the remaining 35 per cent comes from “very low or zero carbon” sources. The latter, which includes the sale of renewable energy and energy management services, is an increasingly prominent part of the group. 

While the energy division’s top line took a hit last year, therefore, its adjusted operating profit actually rose by 10 per cent, boosted by the greener side of the business. 

Renewables and energy management are also expected to do the heavy lifting under DCC's plan to double the energy division’s operating profit from £407mn in 2022 to £830mn by 2030. DCC will focus on European markets, where it generates around four-fifths of its operating profit, and its plans involve building more electric vehicle charging stations and blending in more biofuels.

Divisional woes 

The second biggest part of the DCC group – in revenue and asset terms, if not profit – is the technology arm. This delivers laptops and other equipment on behalf of customers inlcuding Dell, Lenovo and Microsoft. It also specialises in audio-visual equipment and has a North American ‘life tech’ segment, which distributes everything from smart fridges to musical and gaming equipment.

The tech division has had a tough time of late due to weak consumer demand, with revenue dropping by 9 per cent and operating profit by 14 per cent last year. Margins remain under pressure, but management argues that it has held on to share in some of its most important markets and kept costs low, with a division-wide restructuring taking place.

Last but not least is healthcare. Although much smaller in revenue terms than technology, it is more profitable, delivering an adjusted operating margin of 10.3 per cent, compared with 1.9 per cent for technology. It is also significantly higher-margin than the energy division, which posted a margin of 3.5 per cent last year. 

Healthcare is split into two divisions: DCC Vital, which supplies medical devices and consumables to hospitals and clinics, and a consumer health division, which distributes supplements and beauty products for the likes of Procter & Gamble (US:PG), Unilever (ULVR), Haleon (HLN) and Nestle (CH:NESN).

Although healthcare sales rose by 5 per cent last year, this was largely due to the acquisition of Germany’s Medi-Globe, a manufacturer and distributor of endoscopy devices.

Operating profit fell by 4 per cent, which was blamed on destocking in the consumer health arm, plus investment in new lines to manufacture gummies and powder nutrition products (while DCC is primarily a distributor, it also has some small manufacturing operations). 

This investment has caused return on capital employed (ROCE) in the healthcare arm to halve from 20.5 per cent in 2022 to 10.2 per cent. However, once demand recovers and these machines are properly utilised they “will have an obvious benefit on our profit growth and particularly on our returns over the coming years”, Conor Costigan, the chief executive of DCC’s healthcare arm, told investors.

30 years of success 

DCC’s returns have traditionally been strong. Its most recent annual report cites a 6,413 per cent shareholder return during its 30 years as a publicly listed entity. Over the same period, the FTSE 100 delivered a total return of 699 per cent, according to FactSet.

Chief executive Donal Murphy, who has been with DCC since 1998 and who has run it since 2017, says the strategy developed by founder Jim Flavin has been “largely consistent” throughout – focus on building a “growing, sustainable and cash-generative business”, whose ROCE remains ahead of its cost of capital.

Notwithstanding its labyrinthine structure, this boils DCC down to its fundamentals, and the results are pretty clear. It has delivered an annualised free cash flow conversion ratio of 99 per cent since listing and although recent investments have cut the group’s ROCE (excluding leases) to 14.3 per cent, from 17.7 per cent over the previous 10-year period, this metric is expected to improve.

The balance sheet is also strong. Net debt (excluding leases) stood at 0.9 times cash profit at the end of last year. The company completed the acquisition of German distributor Progas and an energy management software business from eEnergy close to its year-end, so the cost of both deals were included even though they contributed little in profit. If no acquisitions were completed this year, net debt would fall to 0.7 times, said chief financial officer Kevin Lucey.

Acquisitions are a key part of DCC's plan, though. They are expected to generate roughly double (6 to 8 per cent) the rate of organic growth (3 to 4 per cent) expected between 2022 and 2030. Assuming it can hit these targets and maintain a steady “mid-teen” ROCE, DCC expects to double earnings before interest, tax and amortisation between 2022 and 2030.

This year, it has already spent £65mn on German solar panel firm Wirsol and Northern Irish fleet telematics company Cubo, although the spend was more than offset by the £82mn sum received from the sale of a liquid gas distributor based in Hong Kong and Macau (in which it has retained a minority stake).

Although restructuring and investing in the technology arm is expected to contribute to its profit goal, the driver will continue to be the energy business, which has “genuine scale, infrastructure and excellent market positions”, according to RBC's analysts.

After a strong run-up at the end of last year, DCC’s shares have fallen by 10 per cent so far this year and trade at 10 times FactSet forecast earnings. This is well below their five-year average of 13 times and the 15 times rating that HSBC analysts attach to it, based on peer multiples.

Whether this is due to outmoded perceptions of its role as a petrol pusher or a lack of appreciation of the value of its varying parts should be of less concern to investors than taking advantage of the opportunity before the shares re-rate.