Broker tips: Tullow Oil, SIG, Dairy Crest

Canaccord said the issues Tullow highlighted in its 9 November trading update on the Tweneboa, Enyenra, Ntomme (TEN) fields offshore Ghana, raise a “hint of concern” and the scale of projected net debt was substantially more than it had expected.

“More generally, we remain concerned about the concentration of cashflow generation in Ghana,” Canaccord said.

“Over the next two years we expect over 70% of the company's production to come from Ghana, where operating costs are relatively low, derived from less than 20 production wells in Jubilee and TEN.”

In its trading update for the period 27 July to 9 November, Tullow said the production ramp-up at TEN to end-October was hurt by issues with water injection systems. The annualised gross production for TEN in 2016 is now expected to be 15,000 barrels of oil per day.

The business expects to exit the year with net debt at around $4.9bn.

Canaccord said the scale of net debt and the outlook for the oil price provides the “greatest hurdle to investment in our view”.

“We anticipate net debt reducing to around $4.5bn at year end 2017 at our current $60 per barrel assumption, and under that scenario we expect the planned refinancing in '17 to go relatively smoothly,” the broker said.

“But at $50 per barrel our projected net debt would be $4.65bn and under those conditions we believe that the lenders would be inclined to extract more value from the company and equity holders.”

Canaccord said despite its concerns on oil prices and debt, Tullow appears more robust than some of its highly leveraged peers. However, the broker concluded that it is not enough to be an attractive investment, short of significant sustained OPEC production cuts.

Jefferies downgraded SIG to ‘hold’ from ‘buy’ and slashed the price target to 90p from 140p after the company issued a profit warning and announced the surprise departure of its chief executive officer Stuart Mitchell.

SIG said on Friday that it now expects underlying pre-tax profit for the year ending 31 December to be between £75m and £80m, which is down from £87.4m last year and below consensus estimates of £90m. It attributed the expected decline in part to weaker-than-expected trading conditions since the EU referendum.

Jefferies said the new guidance range is 12% to 18% below its previous estimate and cut its full-year 2016 pre-tax profit estimate by 18% to £75.3m.

“With the announcement of a change of CEO and CFO in the space of one month, uncertainty around the start date of the incoming CFO and the search for a new CEO starting today, there is no current guidance for FY2017. We have therefore cut our FY2017 estimates to match the existing board's guidance for FY2016, a cut of 26% from £101.7m to £76m.”

Jefferies said that in the face of such uncertainty, it can no longer recommend that investors buy the shares.

“Whether wishing to buy or sell shares, we advise waiting until the dust has settled in order to more accurately appraise the future cashflows on which the valuation is ultimately based.”

JPMorgan Cazenove downgraded Dairy Crest to ‘neutral’ from ‘overweight’ as the stock has surpassed its 600p price target.

The bank said Dairy Crest’s results on Thursday showed the group achieved positive volume growth in its key brands in the first half, despite a decline in the flagship Cathedral City cheese brand.

“This was achieved against a deflationary backdrop and with some operational teething problems in functional ingredients,” JPM said.

It cut its pre-tax profit estimate for full-year 2017 by 2% to £61.5m to reflect a reduced contribution from functional ingredients. However, it lifted its forecast for FY18 by 1% to £68.4m to reflect increased margin expectations.

Dairy Crest said on Thursday that adjusted pre-tax profit in the first half rose 19% to £19.1m as the group underwent a restructuring.

Revenue fell 7% to £190m in the six months ended 30 September, reflecting deflationary pressures in its markets.