Investment Column: Dividend story makes Severn Trent a hit
Kcom Group; Travis Perkins
Wednesday 24 November 2010
Our view: Buy
Share price: 1,450p (-9p)
Half-year results from Severn Trent yesterday may not have been much of a surprise in themselves. Group turnover for the six months to the end of September were in line with expectations, up by 1.9 per cent year-on-year at £868m. And although underlying profits were down by 3.5 per cent at £277m, these too were as anticipated, and the company characterised its performance as "good", in the light of the price reductions imposed by Ofwat's five-year price determination, settled last November.
Behind the as-expected headlines, Severn Trent has a good story to tell. Most importantly, given the new pricing structure, Severn Trent's cost-cutting plans are on track. Operating expenditure is also in line with forecasts, and below the level set by the regulator. Add to that the group's further progress with its renewable energy strategy, including the commissioning of the UK's first commercial scale energy crop plant almost two months ahead of schedule, and Severn Trent looks rosy after the turbulent months of arguments over the pricing plans.
But it is the group's newly outlined dividend policy that bumps the shares up to a "buy". In January, in the aftermath of the Ofwat review, Severn Trent cut its dividend by 10 per cent. Now, in the light of ongoing efficiency programmes, the board is setting a policy of retail price inflation plus 3 per cent for the remainder of the five-year price period, cleanly outpacing the 2 per cent expected by analysts.
Tony Wray, the Severn Trent chief executive, said: "We are well placed to achieve higher levels of operational excellence and progressive, sustainable returns to shareholders, which underpins our new dividend policy for the period 2011/12 to 2014/15."
With a price-earnings ratio of 11.7 times this year's estimates, according to Investec, Severn's shares already look attractive. The tasty new dividend policy, and a recent run that has seen the stock add 12 per cent since the start of last month, only make the case stronger. Buy.
Our view: Buy
Share price: 52.25p (+0.75p)
The telecoms group disappointed analysts with its first-half results yesterday as the 8 per cent fall in revenues to £195m missed expectations.
Despite this, Kcom is a good news story as management has overhauled the stuttering company and offloaded some of the businesses that have performed less well – which is partly responsible for yesterday's drop in earnings. Yet, the earnings before interest, taxation, depreciation and amortisation beat expectations, rising 5 per cent to £38.8m as the group showed good cost control, and as with Severn Trent, this is a dividend story.
The management said the successful transformation – including new banking facilities – means a dividend increase. The interim dividend has more than doubled to 1.1p, and the board has committed to 3.3p for the full year, up from 1.8p. That is expected to grow 10 per cent over the next two years. The price of 7.9 per cent times estimated full-year 2011 earnings also looks undemanding. Buy.
Our view: Buy
Share price: 840p (-12p)
Travis Perkins trades on multiples of 10 times forecast earnings for 2011, according to Panmure Gordon. Though cheap in itself, the valuation appears even more undemanding when considered in light of yesterday's update from BSS, the plumbing and heating firm which Travis is in the process of buying for about £558m.
That is because the multiples do not reflect the impact of BSS, which reported a cheery 24.5 per cent rise in adjusted pre-tax profits to £29m for the six months to the end of September. Revenues were up by 10.2 per cent to £717.1m, while adjusted earnings rose by more than 27 per cent to 16.9p per share over the same period.
Given what remains an uncertain macroeconomic backdrop, the outlook was especially promising. BSS said the second half had begun well, with like-for-like revenues up 5.9 per cent over the first seven weeks. This bodes well for Travis Perkins, as the takeover is on course for completion by end of this year. It also induces confidence in management, which has clearly zeroed in on a strong acquisition. The results suggest that BSS should drive further growth at Travis. Coupled with the thin valuation multiples, we cannot recommend anything other than buying.
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