I’d buy this growing FTSE 100 stock in this market weakness

When I think of the FTSE 100, Rentokil Initial (LSE: RTO) isn’t the first name I tend to remember, but maybe it should be. The company has been performing well over the past few years and the directors are focused on driving strong growth in a robust and expanding market.

I’m impressed by the firm’s record of growing its revenue, earnings and operating cash flow. Over six years, the dividend has risen more than 100%, which I think is a good litmus test of how effective the firm’s growth strategy is as it expands around the world. Roughly 90% of revenue comes from outside the UK with the firm operating in North America, Europe, Asia and the Pacific region, as well as in Britain.

Consolidating a fragmented industry

The core driver of growth is the pest control operation, and the company sees itself as a consolidator in the sector as it thrusts into new territories across the globe. The industry is fragmented, according to the directors, which gives the firm the opportunity to grow by acquiring smaller businesses in areas that offer good growth potential. However, the company also enjoys leading positions in the hygiene services and interior landscaping sectors and states that its business model for profitable growth focuses on “compounding revenue, profit and cash growth through organic growth and M&A (mergers and acquisitions).” 

Today’s third-quarter trading update reveals that continuing revenue at constant currency exchange rates rose almost 12% compared to the equivalent period last year. Just over 4% came from organic growth and the rest from acquisitions. I don’t think I’ve come across a FTSE 100 firm that is as focused on its acquisition programme as Rentokil Initial appears to be. The company acquired 16 new bolt-on businesses in the period, 14 in its Pest Control division, one in the Hygiene division and one in Ambius, its interior landscaping division. Most of the takeovers were in emerging and growth markets.

A strong pipeline

To put the acquisition programme in perspective, the combined annualised revenues of all of the businesses acquired so far in 2018 in the year before Rentokil Initial bought them comes to just over £156m.  That compares to Rentokil Initial’s 2017 turnover of a little over £2.4bn, so the strategy doesn’t expose the firm to big risks. The purchases are small businesses, typically the best-run of several competing firms in an attractive market. Rentokil swoops in, makes an offer, and after it has been accepted applies all its know-how to expand from its initial toe-hold in the new market, which is typically in a fast-growing city somewhere in the world.

The company said in the report that “the M&A pipeline going into Q4 and 2019 remains strong.” And chief executive Andy Ransome said the company is “on track to meet expectations for the full year.”  City analysts following the firm have pencilled in a rise of around 5% in earnings this year and 11% in 2019, so we can expect more steady progress ahead. The shares are not cheap. Today’s share price throws up a forward price-to-earnings ratio close to 22 for 2019, but the business is executing its growth strategy well in a market with a tailwind. I think it deserves its rating and is a good candidate for a long-term hold in my portfolio.  

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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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