Serving up a trading opportunity?

13th Nov '15 by jjis

12 comments 13959 reads

It's a bit quieter on the news front today although we have had a Q3 trading update from Interserve (LON:IRV). The shares have been quite weak and trending gently downwards since they peaked at over 750p 18 months ago. So with the shares down to 535p at the time of writing they might be offering an interesting trading opportunity down here.

The trading update was of the in line variety despite some losses on some construction projects. The support service side, strength in the equipment hire and middle eastern construction helped to offset this. This one got hit back in the summer when they highlighted the likely cost of the new living wage. However I note in the event that estimates were not downgraded, but have actually increased modestly from 62.9p to 63.8p which is a pleasant surprise. So with no changes likely on the back of this update it trades on 8.4x and has a yield of 4.5% based on this years forecast dividend of 24.4p which is expected to be up by around 6% on last year.

So it looks pretty cheap, but then it is low 2 to 3% margin business with a sub 10% ROCE so not the typical high quality business that I try to target. In addition the balance sheet carries some debt which they said today they expect to come in between £270-£300m which compares to the market cap of £774m. So it is quite geared, but the interest cover at over 5x and the Piotroski is a healthy looking 7 suggesting the finances are OK and improving, although ans Altman Z Score of 1.74 suggests a note of caution. However, there's a price for everything and this one seem OK and a bit on the cheap side to me, while the Compound Income Scores rate it at 81 but I note that the price momentum is poor and they are looking oversold. A 10x rating could target a price of 638p which would leave it on a still reasonable 3.8% yield which would be 2.6x covered by the expected earnings.

Looking at the chart above it seems as though 500p could be a good support level so that might be a good level for a stop loss to limit losses if you did decide to trade it. On the upside on the shorter term daily…

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Sully8786

11th Feb '16

Off 14% today - can't see any news - anyone any ideas??

imranawan

12th Feb '16

I believe there was a broker downgrade yesterday, and a recent loss/termination of contract took place recently. Results due on the 24th Feb.

Do you or Jamie hold £IRV?

Best wishes,
Imran.

grumpy5

According to today's FT market report - worries about loss of Middle Eastern business.

Yep I saw that too grumpy5. Won't have long to wait and find out, what the outlook is like.

13th Feb '16

Hi Imran,

Thanks for that - I don't hold personally, but it is on my watchlist (along with several others at the moment) after Jamie flagged it a while ago.

As you say - we'll soon see.

Regards,

Sully.

jjis

Hi Imranawan - yes I'm a holder and a stale bull on this one & have to say I'm pretty surprised by the move down recently given the valuation. I guess this years numbers should be OK given the updates but the outlook will be key to see if the move down is justified. I know they already guided about living wage and next years numbers have come down to reflect that. The main area of concern beyond that is their exposure to Middle East construction and Oil service type work which will no doubt be under pressure given what we have seen elsewhere form the effects of the falling oil price. Looks like this is / was around 7% of turnover and 22% of Pre Tax profits. I could see the oil service part of that suffering in the short term, but would have thought current construction projects are longer term, but order book could be vulnerable to being delayed and cancelled too I guess. So as others have said the results and in particular current trading / outlook statement will be key. Finally I note the big move down the other day was in big volume of around 5x daily avg. from the last 3 months so suggests to me a big / clumsy seller out there perhaps & I note Old Mutual ans Standard Life have announced reduced stakes recently. Can't see any short on the FCA list unlike MITIE and Carrillion which seem are similar types of businesses that have lots of people shorting them.

Regards
Jamie
Standing ugly in this one.

14th Feb '16

Thanks Jamie. I also think they lost a contract/or was ended early in Leicester (which is funnily enough where I live!). As you say it will be interesting to see how things play, out. As at the current level the forecast divi yield is greater than the forward PE, you don't see that too often on a FTSE 250 stock.

Good luck, Imran.

TangoDoc

I too have Leicester connections and suspect it is a very mixed blessing for IRV to have lost the £300m cleaning and catering contract at the Royal Infirmary. Something of a poisoned chalice, in comparison to the far more straightforward matter of building the new and much needed multi story car park. As a regular at the LRI, I will be interested to see if anyone else can do better.

18th Feb '16

See the price has started to recover with the market recently, now back over 400p. But it still has some way to go to get back to the levels it was at when I did this update piece in January.

I saw there was a balanced write up in The Times today discussing the broker note and the outlook ahead of the results soon.

24th Feb '16

The final results are out today and seem OK together with a realistic albeit flat outlook statement. None of which seems to justify the recent sell off and de-rating. I have done a write up over at my website if that is of any interest to any one?

CMWilliamson

25th Feb '16

Thanks for the write-up jjis. I too like the overall business and have been a holder since Dec 2013. As a consequence, my holding is somewhat underwater! The results do look pretty solid and, while reflecting some uncertainty about the short-term future, the recent sell-off appears overdone. (Predicting the future is always uncertain, so much easier to predict the past!). There aren't many (any?) quality companies that offer a PE/yield combo of 6/6.

Nonetheless, I have a couple of observations that do raise some concerns:

- The net asset value is matched entirely by goodwill and intangibles. I never like that.
- The pension deficit creates quite a drag on profits, to the tune of £12m pa.
- Conversion of operating profit to cash has deteriorated and is now down to a poor 31.7%. What confidence that the growth in working capital will reverse?

Am I being overly concerned? I'm tempted to top up at current levels (assuming the knife has stopped falling) but hesitate to do so. Comments welcome

Colin

26th Feb '16

Thanks for your reply Colin and the points you make. On the Working Capital they said:

"Working capital investment continues with a £53.5 million outflow (2014: £53.3 million) reflecting the inevitable impact of the strong growth in the business during the year, as well as the impact of loss-making contracts and tight trading conditions in UK Construction, and continuing slow payment terms in the Middle East."

So I guess as growth in the business is not expected to be so strong this year some of this & maybe UK construction could improve but not sure about Middle East payment terms.

On the Pension, it is a cost of doing business for most large firms, but at least their scheme is just about in surplus so no big worries there.

Personally I'm not unduly worried by the balance sheet goodwill etc. as the increase in the last couple of years reflects the Initial Service acquisition which seems fine to me as it has be integrated as expected. The debt is a bit higher than I'd like to see on the back of this and not much progress so far in paying this down. Maybe that's why they are doing the strategic review of the equipment rental business, which if they sell it, could clear most or all of the debt perhaps and may then also boost the balance sheet.

As for the shares at least they are bouncing like a ex cat at the moment.

Regards

Jamie

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Jjis

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