Rentokil in profit warning after City Link fails to deliver

Shares in business services group plunge by 23%; Board announces departure of chairman
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Rentokil Initial is facing calls for a break-up of the company after a disastrous profits warning prompted a sell-off of its shares and the departure of its chairman Brian McGowan.

Rentokil said problems at its City Link parcels delivery business would result in the company producing significantly lower profits in 2008 and warned it had not yet got to grips with the crisis.

The profits warning – the third such warning in less than a year – also raises serious questions over the future of Doug Flynn, the Rentokil chief executive, who was parachuted into the company in May 2005 by Mr McGowan.

Mr Flynn said he would remain with Rentokil because stepping down at the same time as his chairman would leave the company rudderless. He accepted that Rentokil's new chairman, once appointed, might believe he was no longer a credible chief executive for the group.

The alert over the outlook for Rentokil follows a profits warning in December, also linked to problems at City Link. Back then, Mr Flynn said the company was surprised by lower-than-expected demand from businesses shipping parcels to consumers in the run-up to Christmas. Yesterday, however, he conceded the difficulties at City Link had been much more fundamental.

Rentokil is still trying to get a clear picture of the extent of City Link's problems, but said yesterday it had failed to properly integrate two acquisitions. It has also lost customers after attempting to migrate local franchises on to a national structure and had been forced to compensate customers for service failures.

City analysts said the crisis could result in the demise of Rentokil in its current form. Robert Morton, of Investec Securities, warned: "[Rentokil's] credibility is clearly in tatters and the City Link debacle may herald the eventual break-up of the group."

Mike Murphy, an analyst at Panmure Gordon, added: "The group is now ripe for a bid."

However, Mr Flynn said he would not be panicked into talks with suitors or a strategic review. "The performance from City Link was unacceptable," he said. "I will continue to have an open mind about these issues. But I'm not sure [a break-up] is necessarily going to be the answer."

Rentokil is now attempting to overhaul City Link's systems and has replaced the business's managing director. However, it lost £13.4m in the final quarter of 2007, having made a profit of £14.3m in the same period a year previously. It also lost £2m in January, having made £2m in the same month last year. Mr Flynn said he did not yet know how long it would take to get the business back on an even keel.

Mr McGowan, who has chaired the company since 2004, when stalwart boss Sir Clive Thompson was ousted in a boardroom coup, said he believed Mr Flynn could "point to a demonstrable turnaround in the vast majority of the group's businesses", but added: "The time has come for the board to look for a new chairman". He will stay on until a replacement has been found.

City Link made a profit of £19.4m last year, down from £34.8m in 2006, but Rentokil now expects it to make a negligible contribution this year, with the prospect of little more than a break-even performance.

The unit's problems overshadowed Rentokil's overall results, which showed a modest increase in annual profits from £209.1m in 2006 to £111.4m last year. Sales at the pest control-to-hygiene company were up by 20 per cent to £2.22bn.

Shares in Rentokil fell 23 per cent to 80.5p yesterday, having traded at around 150p before the December profits warning. The company is now almost certain to fall out of the FTSE 100 when the benchmark's constituents are reshuffled next month.