Broker tips: Inmarsat, William Hill, Virgin Money

The German bank said it continues to believe the market underestimates the threat of competition and the negative impact on Inmarsat's free cash flow and warned there "could be more disappointment to come".

The FTSE 100 company's recent final results displayed evidence that trading is far from easy at its three largest divisions.

In maritime the commercial shipping market was said to remain "troubled", government operational budgets and activity levels "continue to exert downwards pressure" and within enterprise, the energy industry "remains depressed".

While Inmarsat has generated excitement about in-flight connectivity, it is a "hugely competitive" market and its Global Xpress (GX) and S-band offering is felt by analysts not to be the most attractive technological solution.

The ease with which Inmarsat signs further in-flight contracts and the subsequent impact on financials and returns is where Berenberg has "considerable concerns" as the company needs to incentivise airlines by taking the operational and financial up-front capex risks.

However, as a vacuum of contract announcements is the only potential near-term negative catalyst, share price underperformance "appears less likely", analysts said.

This is amplified in light of the upcoming decision on LightSquared (L2) which has an option until the end of March to to increase its L-band capacity commitment, which which could see payments increase from $50m a year to anything up to $145m and so could prove a positive catalyst.

Given L2’s recent deals to persuade GPS operators to drop their objections to its high-speed data service, Berenberg said it now assumed a 66% likelihood of perpetual payments, up from 50%.

While the shares' valuation is not cheap it is less demanding at 28 times a blended 2017 P/E ratio, including 50% of the earnings from the L2 opportunity and 10.5 times blended EV/EBITDA.

Morgan Stanley downgraded William Hill to ‘underweight’ from ‘equalweight’ and cut the price target to 290p from 425p following the company’s profit warning last week.

The bank also cut its earnings per share forecasts for 2016 and 2017 by 16% and 18% to 22p and 24p, respectively.

“Trading on 15x price-to-earnings in 2016, the shares are towards the high end of their own long-term range, and with elevated risks in Retail and a lack of visibility in Online, we think risks to forecasts remain on the downside,” MS said.

It said the cash generation, strong balance sheet, dividends and share buybacks provide some support, but a significant re-rating is unlikely until the growth outlook improves significantly in Online, which is unlikely until the second half of next year.

Within the gambling sector, Morgan Stanley expressed a preference for Playtech and 888 Holdings, both of which it rates at ‘overweight’.

It argued that Playtech offers a diversified way to invest in the structural growth in Online gambling through its revenue share model, from its around 120 B2B customer base. In addition, it said the stock’s valuation of 10x 2016 EV/EBITDA does not reflect the strong growth profile.

As far as 888 is concerned, it noted a growing global presence and said the 2016 EV/EBITDA valuation of 9x fails to reflect the attractive growth profile and high cash generation.

Investec has reiterated its ‘buy’ rating and raised its target price to 425p from 420p on Virgin Money after the company’s full year results.

Earlier this month, Virgin reported a 53% rise in underlying profits for 2015 to £160.3m on a strong funding position and record deposit balances.

The mortgage and savings business was the key driver of profits, contributing 69% of total income last year.

“The second half posted an 11% ‘beat’ versus consensus, while guidance signalled an accelerating pace of growth in both mortgages and cards,” Investec said.

“Such volume growth remains key to driving improving operational efficiency, starkly illustrated by positive jaws in 2015 of revenues +19% with costs +5%.”

Investec said while “lower for longer” interest rates will not help profits, the stock remains cheap and further outperformance ahead is anticipated.

Investors seem to be more comfortable with Virgin’s conservative mortgage-led business with 83% of its loans being owner-occupied, the broker added.

“However, we believe it remains undervalued because the market gives insufficient credit for the sustainability and flexibility of its operating model.

“Our 2016-2018e earnings per share forecasts are 1-5% ahead of Bloomberg consensus.”

Investec predicts EPS of 32.2p in 2016 followed by 40.9p and 49.5p in 2017 and 2018, respectively.