RBC Capital ups Serco to 'outperform'

The Canadian bank said it had lifted its forecasts to account for Serco’s acquisition of US defence supplier NSBU earlier this month, arguing that the risk/reward looks favourable over the next 12 months.

RBC said the acquisition looks sensible. "The US Navy looks like a growth market, the deal adds capability for Serco, there are synergies from sharing the fixed overhead and the deal appears to be well priced (8x EBITA) and should be accretive to earnings," it said.

In addition, it noted that the UK now becomes a smaller proportion of the group and given 80% of contracts are cost-plus, the risk profile is relatively low.

RBC said it expects free cash flow to improve markedly from £23m in 2019E to £83m in 2020E and £103m in 2021E.

"This reflects the growth in the top line, margin improvements from leveraging the platform and the significant fall away of onerous contract provision usage (£45m in 19E to £15m in 20E). In addition, cash tax should remain low - Serco has recognised a £20m deferred tax asset in the UK with a further £151m as yet unrecognised.

"This free cash flow should provide options for further M&A and to re-instigate the dividend."