Revenue increased 10.1% in the period, although most growth was driven by acquisitions. The company’s 2.8% organic growth is unsurprising given the mature nature of its operations.

All’s well at the top line then, but Berendsen’s problem lies in the execution of those services. Costs were higher than expected in UK Flat Linen, which serves the hotel and healthcare industries. A number of changes have already been made to improve performance, including a rollout of tracking chips that should improve the identification and sorting of linen.

The first question facing long-term investors analysing these results will be, “are these problems fixable?”

The company is currently conducting a review of UK operations, and while its issues can likely be curtailed by cost-cutting, it’s impossible to know for sure until the root cause of the underperformance is exposed. 

The business plan

The company’s other businesses are performing in line with expectations. The upshot of this is a flat year. Management expects operating profit to clock in at £160m, compared to £153.8m in 2015.

The market might be blue on Berendsen today, but if it can turn around Flat Linen, investor attention will quickly turn to how it can expand.

The company has prioritised investments into the Workwear and Cleanroom businesses where superior operating models exist to deliver higher margins and returns, largely due to the more complex nature of operations.

For example, specialised workwear like firemen’s outfits need to be handled with care to ensure it remains functional. The mission critical nature of these services means companies are often willing to pay for the best.

The Workwear and Cleanroom business achieved operating margins of 21.3% and 26% last year, compared to Flat Linen’s 10.8%. Focusing on these businesses seems sensible, although it’s possible management spent less time on the Flat Linen business to facilitate the expansion. If this is the case, hopefully this is a mistake that won’t be repeated. 

Foolish finances

The company also uses some rather Foolish (capital F!) metrics to assess long-term performance, with an emphasis on cash conversion and return on invested capital (ROIC) when analysing the success or failure of the business. The former ensures there are no accounting gimmicks (it can be easy to massage paper earnings that appear on the income statement, but harder to manipulate cash) while the latter metric is one of the single most important factors in driving long-term returns.

A high return on capital implies that a business needs to invest less to increase profits – and we Fools will almost always pick a business that only needs to invest £5 to make £1, over a company that requires £8. Simply put, a high ROIC allows compounding to work its magic.

The company has performed admirably in the past, with strong cash conversion and ROIC jumping from 6% in 2011 to 8.6% last year. These figures seem likely to fall in the short term, but this impressive track record and the repeat nature of revenues should be enough for investors to hold the shares. After the fall, the shares only offer a yield of 3.1%, lower than the FTSE 100’s payout. But one positive is that most of Berendsen’s business is repeatable and predictable income should help protect that dividend. 

The post Why have Berendsen plc shares dived 17% today? appeared first on The Twelfth Magpie.

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Zach Coffell has no position in any shares mentioned. The Motley Fool UK has recommended Berendsen. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

The Chinese slowdown and record low oil prices have left their imprint all over the indices. In addition to this mess, smaller UK-focused companies could suffer from more pronounced volatility should a referendum be held as early as June, which news reports suggest is David Cameron’s preference.

Analysts at Credit Suisse are pointing at the three UK companies with the largest risk due to European exposure  — Berendsen Plc, Thomas Cook Group Plc and Shanks Group Plc. They generate more than 60% of their income on the Continent and all three happen to be in the FTSE 250.

Volatility indicators show too that the swings in UK markets have been more pronounced this year than movements in European markets.

Small IS better

Over the past few years there has been sense in fleeing into small and mid-caps when the Footsie let you down. The FTSE 100 comprises companies that generate 70% of their income outside the UK. Escaping its global risks by targeting companies with more UK-focused operations might no longer make such sense if you look at the performance of indices this month.

But is that really the case? Let’s look at what’s going on and how stocks are really affected.

The hype factor?

Firs, there might be more hype than fact to the idea that the indices are down due to Brexit fears. In my view, the FTSE 250 is at its lowest premium over the Footsie since May because investors have taken out money while it was still there in the wake of the global carnage caused by oil and a weakening China. Valuations, which had been driven up last year by investors eager to buy into UK companies dealing with the strong UK economy, have fallen 18% this year. Incidentally, the index hit a decade high at the end of 2015. The FTSE 250 average multiple is now 15.8 times projected earnings compared with 14.8 for the FTSE 100. And both indices are said to still be overvalued.

Second, the forecast earnings of smaller companies still outstretch those of the FTSE 100 generously, something investors never ignore for long. Last year’s returns on the AIM All-Share Index were robust. It was up 6.6% despite also being dragged down by energy stocks. And the FTSE Small Cap index, which was up 4% last year and has shed less than 1% so far this month, has an average growth prognosis of 25%.

Finally, Britons won’t stop consuming should the Brexit happen. They might consume differently. But that won’t immediately wipe out the earnings potential of sound UK businesses operating in a still-expanding economy.

There’s plenty of scope for small and selective mid-cap companies to continue performing well, despite Brexit fears. Brexit is a concept at the moment and not a reality, which is important to bear in mind as the EU recovery starts to pick up and potentially offer good opportunities, especially in cyclical stocks.

The post Brexit Undermining Small Caps? Baloney! appeared first on The Twelfth Magpie.

More reading

• Forget meal deals! Here’s how £8 a day could be worth £357,000
• With a 7% yield, is this dividend share a no-brainer?
• The CMC Markets share price is smashing the FTSE 100 in 2026. Is there an opportunity here?
• With a yield of 6.8% and a P/E ratio of 12.1, is this a dirt cheap FTSE 250 stock to consider?
• Will SpaceX, Nvidia, or Alphabet be the first $10trn stock?

Angelique van Engelen has no position in any shares mentioned. The Motley Fool UK has recommended Berendsen. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.