Is Dignity a better turnaround opportunity than BT Group?

Around 30 years ago, a friend found himself running a family funeral director business. His father had worked to build up the firm’s reputation and turnover, but then, in my friend’s words, “in an act of selfless dedication, he ploughed himself back into the business.” I offered my condolences for my friend’s loss, then we discussed his stalled plans to start a carpentry business. “The problem is,” he said, “undertaking is just too profitable, so what else could I do?”

A changing sector

As well as providing my mate with decent profits, there was always a steady supply of business because the death rate has been consistent over the years. And attractions like those led Dignity (LSE: DTY), the UK’s only listed provider of funeral-related services, to embark on a programme of buying up other funeral businesses in what looked like a push to consolidate the market.

However, things changed. It seems that bereaved loved ones have had enough of big funeral expenses and have been shopping around. Dignity now competes against providers willing to slash prices and the matter crystallised at the end of 2017 when the share price started sliding. The stock is now down around 60% and the firm announced it is perusing a ‘more competitive’ pricing policy. It looks like 2018 will finish with earnings about 40% lower year-on-year.

Reduced cash flow and profits have hampered the business model, which relied on a big pile of debt to finance the acquisition programme. With the cash taps turned down, that strategy looks unsustainable. In today’s Q3 trading update, the company said it invested £5.4m in acquiring four funeral locations in the year so far. But the directors said that “after careful consideration,” they have concluded that “the acquisition of small funeral businesses is at present inconsistent with the Group’s strategy and plans for the future.”

Time to move on?

That sounds like the end of Dignity’s previous growth model. Instead, it will concentrate on “delivering the transformation plan.” So, it looks like it is digging in to fight for survival. However, there is some hope for a turnaround in the business because the directors will look for “larger, more established” businesses to buy, and they also think new crematoria developments are “a good use of capital.”

But I’m sceptical and would move on from Dignity, perhaps to consider BT Group (LSE: BT.A) for its turnaround potential instead. The share price has been rising over the past six months and I think that could be due to investors buying because of the firm’s low-looking valuation. Meanwhile, the company is focusing on turning the business around and driving down costs. The new chief executive, Philip Jansen, is due to start in February and his main priority will surely be to arrest the decline in the business.

But the half-year report this month demonstrated the magnitude of the task ahead. Adjusted revenue slipped 1% compared to the equivalent period the year before, normalised free cash flow plunged 22% and net debt rose 25%. The figures are moving in the wrong direction and the directors expressed their concern by reducing the interim dividend almost 5%. BT Group is a bigger business than Dignity, and in the short term I think the turnaround opportunity is more attractive, but I’d still be reluctant to place a long-term bet on the company.

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Kevin Godbold has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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