Pearson rallies on bullish Citigroup note

Pearson rallied on Thursday after Citigroup reinstated coverage of the stock at ‘buy’ with a 1,425p price target, pointing to the scope for improving revenue trends, better free cash flow and potential for accretive cash usage.

The bank said there are five reasons why it’s bullish now.

It said that despite the overhangs in testing, the worst is behind us in terms of challenges to underlying growth.

Citi said that as the business returns to steady state growth – in particular within higher education – it expects margins to revert to historic levels.

In addition, Citi said it reckons the market underestimates the potential for a rebound in free cash flow, giving extra comfort in the cash-based valuation.

The bank said it sees scope for EPS/FCF upgrades from accretive cash usage.

Finally, with the relative price-to-earnings ratio at a five-year low, Citi said the valuation is “unreasonably cheap”.

“It may take time for the market to get comfort (with the third-quarter trading update in late October a key hurdle) but we think that at 14.6x 2016E P/E and with a 4.9% dividend yield, risk/reward at Pearson looks attractive.”

At 1040 BST, Pearson shares were up 4.9% at 1,182p.