Broker tips: G4S, Drax, Genel Energy

G4S shares rose on Tuesday as RBC Capital Markets reiterated an ‘outperform’ rating and lifted the target price to 310p from 280p, citing higher medium-term cash flow forecasts.

“As the group deleverages and starts to demonstrate cash flow improvements, we see significant scope for a re-rating, as the market focuses on the strong market positions and high organic growth potential of the group,” RBC said.

The broker expects free cash flow rising 65% over a four-year period. The group is trading on a free cash flow yield of 11% for 2020, more than double the sector average for 2017.

RBS believes the security services company is well positioned in an industry that is set to grow at more than 6% per year through to 2023. G4S also has “strong market positions” in the US, the UK and emerging markets, which accounts for 40% of sales and 50% of profits.

“G4S, unlike many of its peers, can provide all facets of security from consulting to guarding to electronic security,” RBC said.

“We forecast average organic growth of 5.2% per annum over the next three years. In the short term, we see security growth remaining strong with terrorism threats, migration, increased border controls and the uncertain political environment all helping.”

In what was a largely very positive note, Barclays downgraded Drax Group after a 75% share price rally over the last year as the coal power station's plans to strengthen and extend earnings "lack clarity".

Final European Union state-aid approval for Drax’s biomass CFD subsidy has eradicated a previous risk discount and combined with an improvement in biomass generation economics and the value-accretive acquisition of SME retailer Opus Energy add up to the "fully justified" strong share price performance.

Drax's future earnings have been endowed with less volatility and higher confidence as the above moves lower exposure to volatile wholesale energy markets.

Opus also vitally gives Drax a visible material earnings stream beyond 2027 when biomass subsidies end, especially if the company can also proceed with new open cycle gas turbine developments.

Further optimism is taken from full year results due on 16 February, which "could herald a new dividend policy".

Based on the above, plus potential additional positive catalysts such as OCGT confirmation, further improvement in generation economics and pellet plant acquisitions, Barclays increased its price target to 400p from 325p.

However, analysts downgraded to 'equal weight' from 'overweight' as "the timing, quantum and probability of such upside opportunities [are] currently opaque".

Genel Energy’s shares fell on Tuesday as Canaccord Genuity cut its rating to ‘hold’ from ‘speculative buy’ and reduced the target price to 75p from 140p, saying the tough conditions of 2016 continue.

The oil company’s overall production is expected to fall in 2017, following a continued decline at the Taq Taq field in Kurdistan.

Output at Taq Taq averaged 61,000 barrels of oil per day at the first half of 2016 before falling to 60,000 bopd at the full year results. In 2017 production at the project is estimate to drop further to between 24,000 to 31,000 bopd.

In comparison the Tawke prospect continues solidly above production of 100,000 bopd and is forecast to rise to 115,000 bopd after 107,000 bopd in 2016.

Total net production guidance for 2017 is set at 35,000-43,000 bopd, compared to 53,000 bopd in 2016.

Canaccord said: “The poor Taq Taq performance continues to weigh heavily. We now anticipate a further reserves write down, which we expect is now priced in by the market to some degree. Based on the revised end 2015 reserves and post 2016 production, gross 2P reserves would be around 150mmbbls, but a further reduction of 25% now looks likely to us.”

The broker said its previous target price was based on a net present value of 142p, which it has lowered to 119p.

Genel still offers 20% potential upside despite the fully pared back valuation, Cannaccord said.

“Normally that would be enough to keep a ‘speculative buy’, but Genel's own circumstances, aside from key risk indicator issues, suggest further caution.”

“We think it will take some time - starting with clarity on Taq Taq reserves and a well-founded field (re)development plan, together with tangible delivery - before the market is likely to recognise even our 'low end' 81p per share valuation.”