Airlifting troops out of Afghanistan and savage cuts to the US military budgets have had a major impact on Qinetiq (QQ.). The US government is responsible for almost half the group's sales, but the defence company's US Services division generated just 13 per cent of underlying operating profit last year. Management is looking at how to get "maximum value" out of the business, but a sale now looks odds on. That would unlock value, spark a massive return of cash to shareholders and put the rest of Qinetiq in the shop window.
- US Services division up for sale
- Possible break-up of entire group
- Well-suited potential buyers
- Highly cash generative UK business
- US defence spending cuts
- Strong pound
There's little doubt in the City about Qinetiq's intentions. "I'm pretty sure they'll try and sell it," says Chris Dyett, an analyst at broker Investec Securities. The Sunday Times recently reported that sale documents have been sent to potential suitors, and that the bidding could reach £400m. Mr Dyett thinks it will be "closer to £200m", far less than what Qinetiq paid for its US interests on its wild acquisition spree between 2007 and 2009. Even at that figure, getting a struggling business off the books would be a huge relief to shareholders.
Management would be left running a growing and highly cash generative UK business where long-term contracts provide stable, predictable revenues. Even the short-cycle global products division is packed with earnings potential. The likelihood of a break-up would increase dramatically, but what's the group worth? The figure could be depressed by low profits at US Services, which is also hit by sterling's strength - Investec forecasts just £18.7m this year versus £53m in 2010. Even so, analysts at investment bank JPMorgan guess at 247p, based on take-out multiples for similar defence companies.
QINETIQ (QQ.) | ||||
|---|---|---|---|---|
| ORD PRICE: | 200p | MARKET VALUE: | £1.32bn | |
| TOUCH: | 199-200p | 12-MONTH HIGH/LOW: | 215p | 178p |
| FORWARD DIVIDEND YIELD: | 2.3% | FORWARD PE RATIO: | 12 | |
| NET ASSET VALUE: | 66p | NET CASH: | £74m | |
| Year to 31 Mar | Turnover (£bn) | Pre-tax profit (£m) | Earnings per share (p) | Dividend per share (p) |
|---|---|---|---|---|
| 2011 | 1.70 | 27.0 | 14.2 | 1.6 |
| 2012 | 1.47 | 332 | 17.7 | 2.9 |
| 2013 | 1.33 | -102 | 18.7 | 3.8 |
| 2014** | 1.28 | 102 | 15.6 | 4.2 |
| 2015** | 1.31 | 109 | 16.2 | 4.6 |
| % change | +2 | +7 | +4 | +10 |
Normal market size:10,000 Matched Bargain Trading Beta:0.6 *Espirito Santo estimates, adjusted PBT and EPS figures | ||||
Edward Stacey, an analyst at broker Espirito Santo, is more bullish. Even without a disposal, he thinks the shares are worth 235p, based on an adjusted EPS estimate of 16.2p in 2014-15. Selling US Services for £300m and using the proceeds plus any net cash (an estimated £216m by March 2015) to buy in shares increases EPS by 23 per cent to 20p, says Mr Stacey. Apply the current forward multiple to that level of earnings brings a price target of 250p.
For any of this to happen, there needs to be a willing buyer. US companies ManTech (US: MANT) and Science Applications International Corporation (US: SAIC) are the obvious candidates. They both know Qinetiq well. Duane Andrews, who ran Qinetiq’s North American business for seven years, spent 13 years at SAIC. And ManTech has done business with Qinetiq before, paying $60m (£37m) for its security and intelligence business three years ago. US private equity may have a crack, too.
