Market Commentary - Housing, Infrastructure, Construction and Services 13th February 2017
Capita has announced that its long standing quarrel with The Co-operative bank has ended with what looks like a no score draw.There is little news expected this week; its half term and the snow is good so the real action with the December year ends does not begin until next week.
Capita has announced that its long standing quarrel with The Co-operative bank has ended with what looks like a no score draw. The release has come on the same day that the Bank has announced its intention to commence a sale process and review its equity funding in relation to its outstanding liabilities. Capita’s subsidiary, Western Mortgage services will continue to provide administration services to the Co-op but will cease work on the IT transformation project. The outcome will be seen as good news for Capita, we suspect as it removes the uncertainty around this issue but should beg oft repeated questions about both IT transformations and Capita’s capacity to deliver them. This agreement with the Co-op solves few of the outstanding larger issues concerning Capita a topic expected to be covered in a CMD in the summer.
There is little news expected this week; its half term and the snow is good so the real action with the December year ends does not begin until next week. Titon Holdings has its AGM on Wednesday and may tell us something about the UK market for ventilation systems and window hardware. And on Friday Kingspan reports its final results for 2016; the shares, quoted in the UK for many years go largely unnoticed but at €28.5 are over 13x higher now than they were eight years ago in € terms and a broadly similar level in £ terms. Its revenue in 2016 was probably around €3bn, held back a little by FX headwinds and operating margins will be around 11.5%. Its market cap is €5.1bn. Trading on near 20x historic p/e some investors have obviously seen its potential and further substantial growth is highly likely across all of its product areas.
Moves on Friday last saw the top five slots occupied by stocks that still have low relative valuations and have been quietly moving up in recent weeks. Interserve was the largest mover, up 3.4% on Friday to 346p. Galliford Try rose by 2.2%, SIG by 2.6%, Capita by 2.6% and Berendsen by 3.4%. Against their relevant peers all five stocks are arguably undervalued, the extent depends on your view about the validity of the accounting numbers and management’s credibility to achieve the goals it has set. Berendsen in particular is currently subject to big brokers changing sentiment and they are all starting to follow each other with positive comments as the herd switches direction on little new news.
SIG remains a top pick for 2017 and is up 6.4% YTD; that move is ahead of the market and the sector but not the most positive as the data below shows. The new CEO may (or may not) trigger some positive moves but the basic metrics of SIG’s performance and its markets in recent years suggests there is substantial scope to raise earnings.
If the top end of our universe indicates a move towards “value” investing/higher risk the other end echoed that shift a little. While the down moves were small Homeserve was the biggest faller, down 0.5% at 600p and Serco was down 0.3% at 146p. We see no real issue with each of these stocks so the moves were just ebb and flow of trading.
Moves last week
It was a positive week for the market and the sector kept pace with arise of c 1%. YTD The sector is ahead of the market, especially the housebuilders who have had a very good year so far. The markets near 2% rise is a tad lower than the 3% of the sector.
Berendsen was the strongest performer in the seven days to 10th February. Its 10.7% rise starts to put it back among the more highly rated operations in the sector. But it remains in the mid teens on a prospective p/e of a short 15x when pre profit warning it was up there with the top rated stocks at near 20x. The full year numbers are due on 3rd March and as we stated earlier sentiment has become positive as investors follow changed broker views, or is it the other way around.
There were several other strong improvements including Capita, up 8.3% and Galliford Try up 6.3%. The former is struggling to get support despite forecast being maintained at the 62p level putting the company on a p/e of 8.5x; the prospect of an equity fund raising looms large still. Perhaps some investors anticipated the ending of the Co-op quarrel, who knows? Galliford Try is benefitting from positive sentiment towards companies with earnings from housebuilding. The newsflow on some troubled projects in construction remains negative but the impact is probably already in the price. The company provides its half year numbers and a strategy update on 21st February
The fallers were not worthy of great attention on the basis of the decline last week alone. Babcock was one of only two shares to go backwards, it fell 0.8% to 881p. The more substantial issue is that three years ago the shares hit 1300p (Feb 24th 2014) and the management had all the swagger that comes from being highly rated. Avincis was bought for £1.6bn in late March 2014 and the stock has been sliding slowly lower since then to be 33% down. Mmmm. We got this one sadly wrong. It has failed so far to convince city markets that it can operate successfully outside the confines of defence markets, especially the UK MoD. It has recognised the strategic need to operate outside the UK but it started with a slim basis to do that. Growing international operations often commences by working with an existing client in a anew geography. Babcock did not have that luxury and its choice of acquisition to enable that to happen, Avincis did not have that base either.
Both Capita and Babcock worked mainly with the UK public sector in their fast growth phases. One common factor that has emerged is that while the strategic gurus may indicate that overseas earnings are needed to diversify earnings the prevailing culture in the business and the contact network are highly stretched by such excursions, especially when they are large and are not based on the more natural growth processes, the main one being following existing clients. Rentokil’s presence in the US is growing rapidly now, by contrast but that was built slowly in its early phase, from a small base and is founded on its experience with private sector clients.
Disclaimer - Past performance is no guarantee of future results. Inherent in any investment is the potential for loss. This material is being provided for informational purposes only and nothing herein constitutes investment, legal, accounting or tax advice, or a recommendation to buy, sell or hold a security. This document may contain materials from third parties, which are supplied by companies that are not affiliated with Edison Investment Research. Edison Investment Research has not been involved in the preparation, adoption or editing of such third-party materials and does not explicitly or implicitly endorse or approve such content. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. It should not be assumed that any investments in securities, companies, sectors or markets identified and described were or will be profitable. All information is current as of the date of publication and is subject to change without notice. While based on sources believed reliable, we do not represent this material as accurate or complete. Any views or opinions expressed may not reflect those of the firm as a whole. Edison Investment Research does not engage in investment banking, market making or asset management activities of any securities. The material has not been prepared in accordance with the legal requirements designed to promote the independence or objectivity of investment research.