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OPINION

Driving a hard bargain

Driving a hard bargain
October 11, 2010
Driving a hard bargain
IC TIP: Buy

However, recent newsflow demands another update. Shares in energy consultancy, KBC Advanced Technologies, got a boost last week after the company signed its largest-ever contract, a 30-month multi-site service agreement with Mexican state oil group Pemex worth $42m (£26m). KBC's team of energy consultants will provide strategic and engineering expertise to help Pemex boost its profit performance across six refineries which is a major coup as the company had previously expected to win a two-year agreement worth $16m. It also gives a boost to KBC’s order backlog, which stood at £39.8m at the end of June and means that revenue visibility and profitability for next year has significantly improved.

KBC is now expected to see a strong profit recovery next year, with analysts at Cenkos forecasting a 18 per cent rise in adjusted pre-tax profits from £4.9m in the 12 months to 31 December 2010 to £5.8m in 2011. If KBC hits these targets then adjusted EPS will rise from 5.2p to 6.2p, and with year-end net cash expected to increase by around 10 per cent to £4.5m, reflecting the highly cash generative nature of the business, this offers scope for the full-year dividend to be raised from 1.6p to 1.8p as analysts predict. So with the shares trading at 52p, up from 45p on news of the Pemex deal, they are offering a decent 3.5 per cent prospective yield and rated on a modest 8.5 times earnings estimates.

This modest valuation is partly justified by the mixed trading environment in the refining industry which is still characterised by ongoing investment and expansion in the developing world – KBC reports strong growth in China, India, Middle East and Latin America – and overcapacity and margin pressure in the developed world. However, this hasn’t stopped KBC winning major new contracts in the past year with Petrobras in Brazil, Sinopec in China, TNK-BP in Russia and Qatar Petroleum.

Moreover, KBC shares only trade in line with net asset value of 52p a share, which seems harsh as the company has no funding worries, generates cash profit margins of around 12 to 13 per cent and a double-digit return on equity. Given the favourable valuation and scope for a significant profit recovery I continue to rate the shares a recovery buy.

BARGAIN SHARE PORTFOLIO UPDATE 2010

CompanyPrice on 11.02.10Price on 07.10.10% change with divs*% change without divs
Acal (note 5)14122562.9%59.6%
Bowleven113.518260.4%60.4%
Delta (note 1)14018535.6%32.1%
KBC Adv. Technologies (note 3)455219.2%15.6%
Bloomsbury Publishing (note 4)1241232.1%-0.8%
Gleeson (MJ) (see note 2)130117.51.9%-9.6%
Jacques Vert (see note 6)16.2515.25-2.2%-6.2%
Telford Homes (see note 7)9180-10.7%-12.1%
Average21.2%17.4%
FTSE All-Share 2644292713.3%10.7%

1. Delta received a cash bid of 185p a share on 4 March and paid a dividend of 4.8p on 26 April

2. Gleeson paid out a special dividend of 15p a share on 31 March

3. KBC paid a final dividend of 1.1p on 18 May and interim dividend of 0.55p on 13 October (trading ex-dividend)

4. Bloomsbury paid a final dividend of 3.65p on 1 July

5. Acal paid a final dividend of 4.67p on 30 July

6. Jacques Vert pays a final dividend of 0.65p on 16 October (trading ex-dividend)

7. Telford Homes paid a final dividend of 1.25p on 16 July

*FTSE is with dividends reinvested. The bargain portfolio does not reinvest dividends, but takes them as cash.

Bowleven

Shares in West Africa focused oil and gas exploration group Bowleven have been one of my star performers, rising 60 per cent to 182p on the back of success on its Ethinde permits offshore Cameroon. It was therefore with great interest that I noted the company has revised its farm out agreement with Vitol for these permits. Previously Vitol had paid $100m (£62m) for a 25 per cent stake in three blocks in return for funding a $100m work programme and had the option to raise its interest to 50 per cent in return for funding a further $100m of work and paying Bowleven $25m cash.

The new option arrangement now expires on 31 March and gives Vitol the right to acquire an additional 10 per cent interest in the most advanced block, MLHP-7, containing the important Isongo E and Isongo F field discoveries, in return for funding $50m of the work programme. Vitol will retain a 25 per cent stake in the MLHP-5 and MLHP-6 blocks, but no longer has an option to raise this. So in effect the new agreement values MLHP-7 at over $325m or $25m more than the implied valuation of all three blocks under the previous arrangement. Whether Vitol exercises the option will depend on the results of the recent Isongo E-3 appraisal well and a 3D seismic survey over Isongo F, news of which should be forthcoming at Bowleven’s final results on 8 November.

My take is that the new arrangement with Vitol makes it far more likely that Bowleven will do further farm-out deals on Ethinde which can only be positive as it will highlight the underlying value in these assets. It is also in a position to get a decent price, too, as it has $80m cash on its balance sheet and is due $35m proceeds from the disposal of its EOV Permit, offshore Gambon. I continue to rate the shares a buy ahead of the results next month and the update on the Isongo fields.

Acal

European electronic components distributor Acal enjoyed a strong first quarter with sales in the first 17 weeks of the financial year to March 2011 up 20 per cent overall, but nearer to 30 per cent at the end of the period given an accelerating order flow. With margins improving, too, this prompted analysts at Shore Capital to raise their current year EPS estimate from 6.5p to 7.9p, based on adjusted pre-tax profits of £3.5m and sales of £249m. However, it is the following year when profits will really take off as Acal’s operational gearing kicks and the full benefits of the group’s BFi Optilas electronic acquisition feed through. Analysts conservatively expect sales to rise to £264m in the 12 months to March 2012 and profits and EPS to more than double to £7.4m and 19.6p, respectively. With earnings upgrades a real possibility, the shares – which have risen 59 per cent to 225p – continue to rate a buy on a forward PE ratio of 11.5.