Our negative call on HomeServe (HSV) is not because things appear to be getting worse. In fact, there have been some encouraging signs of stabilisation. Rather our caution stems from the fact that the valuation has run ahead of fundamentals. The shares are up 36 per cent in the past three months. At the same time, earnings forecasts have broadly stood still. The upshot is that the forward earnings multiple has expanded from 14 times at the time of the results back in November, which we felt was a fair rating at the time, to a heady 18 times now. That represents a 20 per cent premium to the support services sector average of around 15 times.
- International business growing well
- Reasonable dividend yield
- High rating yet relatively low growth
- Costs of stabilising UK business may weigh heavily
- US customer growth slowing
- Historic mis-selling issues
The company has said it should return to earnings growth in its next financial year after a difficult few years marked by a Financial Conduct Authority (FCA) investigation into mis-selling that sparked the temporary suspension of all selling and marketing activities. The most recent update indicated that HomeServe had increasing confidence it would be able to stabilise its UK customer numbers at a level of at least 2m, having dropped from just over 3m in the year ended March 2011. Analysts are now pencilling in earnings growth for the next few years. This is obviously better than shrinking earnings, but the growth is more modest than what you would expect given the stock's punchy rating. On JPMorgan Cazenove forecasts, compound earnings growth is forecast to be a fairly modest 4.5 per cent over the next three years.