JPMorgan reinstates coverage on Serco at ‘overweight’

The bank said its analysis suggests that Serco can generate double-digit earnings per share growth in the medium term.

"Firstly, Serco’s revenue growth (target 4-6%) is largely acyclical, given the exclusive focus on government customers," it said.

"Serco’s strategy has been to expand further into attractive target markets, with a particular emphasis on US defence (deepening the current Navy focus and winning work elsewhere, e.g., with the Air Force/Space Force) as well as US civilian Federal services.

"Second, we see scope for margins to improve further, chiefly due to an improving mix (higher US exposure) and also due to a greater focus on contract profitability management (a key priority for this management team as evidenced in the 1H24 results).

"Third, Serco can continue to utilise its FCF for M&A and buybacks."

Citi said it used a discounted cash flow to derive its target price, but also considered a sum-of-the-parts approach that suggests Serco’s current valuation does not give the stock full credit for its US defence exposure, giving circa 30% upside potential.