Broker tips: Kainos, Oxford Instruments, Direct Line

Analysts at Canaccord Genuity lowered their target price on software firm Kainos from 1,525.0p to 1,270.0p on Thursday and downgraded the stock from 'buy' to 'hold', stating "slimmer public sector pickings" made future beats less likely.

Canaccord Genuity said Wednesday's 8% sell-off on the back of an "in-line" FY23 trading update highlighted "the main dilemma" for investors.

It said the roughly 20% organic growth delivered last year was "impressive" and that its forecasts now assume that Kainos can at least maintain an approximately 11% compound annual growth rate in 2024 and 2025.

"However, the still rich valuation premium relative to listed peers in our view bakes in expectations of continued future upgrades to consensus growth and earnings per share, which in our view will become increasingly difficult to achieve," said the Canadian bank.

"Putting it all together, we have a high-quality IT services business delivering resilient low-teens % sales and EPS growth in a slow macro environment. This is a good place to be, but with growth and EPS upgrades in our view less likely over the next 12 months, the shares' rich valuation relative to global and UK peers makes us move to the sidelines."

Analysts at Berenberg upped their target price on manufacturing and research company Oxford Instruments from 2,930.0p to 3,100.0p on Thursday, stating that the group was "graduating at the top of the class".

Berenberg said it had recently argued that consensus forecasts for Oxford Instruments' second half were "clearly too low" and that investors should expect "significant upgrades" to near-term estimates.

Well, Berenberg declared last week's trading update was evidence of this, with the company announcing that it had delivered 22% year-on-year revenue growth, with flat year-on-year operating margins, suggesting a 12% beat to its prior estimates.

While we await further details on performance from the company's full-year results in June, this represents another excellent year of progress and earnings growth for OI," said the German bank, which stood by its 'buy' rating on the stock.

"With future forecasts still conservatively set, significant exposure to structural growth markets including life sciences, compound semiconductors, advanced materials analysis and quantum technology – as well as an improving mix towards faster growing segments within the group – we expect further periods of strong earnings growth and momentum over the coming years."

Jefferies upgraded Direct Line on Thursday to 'buy' from 'hold' and lifted its price target on the stock to 210.0p from 175.0p as it pointed to an improving market outlook and depressed valuation.

"We forecast a Solvency II ratio of 161% by HY 2023, improving to 184% by FY 2025," Jefferies said. "This, combined with improving pricing conditions and at an attractive 6x 2024F P/E multiple, leads us to upgrade to buy."

Jefferies reckons the insurer can restore its Solvency II ratio without having to raise equity and highlighted that in a scenario where market conditions sufficiently harden, it expects Direct Line to outperform Admiral.

"With market pricing improving, we view DLG as the best way to play this theme, given that a) DLG currently trades at a 6x 2024F P/E multiple and b) we expect the favourable market conditions to earn through into DLG's result quicker than Admiral," said Jefferies.

"If pricing conditions do not adequately improve, then we would still expect DLG to outperform, as we expect poor margins from 2022 to impact Admiral's result for longer in the form of lower profit commissions."