NCC (NCC) has been highly acquisitive while attempting to capitalise on the rising demand for cyber security services. A string of deals led to rapid turnover growth and promotion into the FTSE 250 in late 2015. However, the group has now warned on profits three times in five months and initiated a strategic review last month. The growth strategy seems to have run into serious trouble and we think investors should jump ship.
- Escrow business division remains stable
- Operating in the high-growth cyber-security market
- Profit very sensitive to revenue changes
- Narrow margins
- Lack of revenue visibility
- Poor track record of profit warnings
The problems lie in the cyber-security focused Assurance division, which in the first half of the 2017 financial year contributed 55 per cent of cash profit. This is where trouble first emerged in October when the company reported the loss of three 'higher-margin' contracts and the delay of another.
The trading difficulties have been particularly painful given the sensitivity that the division's profit have to slowing revenue. At the half-year stage, underlying operating margins had dropped from 14 per cent to 10 per cent. Following the latest warning, which came just a month after the half-year results, broker Citi has pencilled in second-half margins of just 2.3 per cent. The margin plight has been made worse by the fact that the company has been ramping up investment in staff to handle anticipated growth.
It was particularly concerning that the company told investors last month that growth has slowed across all major geographies, as it had previously suggested contract losses were unrelated. The fact the warning came relatively soon after the half-year results also highlights a problem with revenue visibility.
More nebulous concerns centre around the integration of acquisitions, especially NCC's large purchases of Accumuli and Fox-IT. Indeed, goodwill writedowns would not be a surprise.
The way the bad news has been released to investors has also caused some upset, with the latest warning released minutes before markets closed the day before the company was scheduled to woo analysts at a 'capital markets' day. Confidence has not been helped by the recent departure of the finance director the decision by the chairman to step down in May and now the departure of chief executive and mastermind of the acquisition strategy, Rob Cotton.
Some comfort can be taken from the balance sheet, which benefited from a £126m fundraising at 275p just over a year ago. However, broker Berenberg expects net debt to have increased from £13m at the end of May 2016 to £55m by the end of the current financial year, and £71m the year after.
It's not all bad. NCC's less-exciting Escrow division, which securely stores application code to protect against the prospect of clients facing problems with software suppliers, is performing well.
NCC (NCC) | ||||
|---|---|---|---|---|
| ORD PRICE: | 107p | MARKET VALUE: | £296m | |
| TOUCH: | 106-107p | 12-MONTH HIGH: | 377p | LOW: 88p |
| DIVIDEND YIELD: | 4.4% | PE RATIO: | 12 | |
| NET ASSET VALUE: | 100p* | NET DEBT: | 18% | |
| Year to 31 Dec | Turnover (£m) | Pre-tax profit (£m)** | Earnings per share (p)** | Dividend per share (p) |
|---|---|---|---|---|
| 2014 | 111 | 25.3 | 9.3 | 3.5 |
| 2015 | 134 | 25.5 | 9.4 | 4.0 |
| 2016 | 209 | 37.0 | 11.2 | 4.7 |
| 2017** | 245 | 26.6 | 6.9 | 4.7 |
| 2018** | 258 | 34.1 | 8.8 | 4.7 |
| % change | +5 | +28 | +28 | - |
Normal market size: 1,500 Matched bargain trading Beta: 0.45 *Includes intangible assets of £335m, or 121p a share **N+1 Singer forecasts, adjusted PTP and EPS figures | ||||
